Advanced Financial Accounting Ed. 11th.pdf

ADVANCED
FINANCIAL
ACCOUNTING
& REPORTING
The Institute of Cost and Works Accountants of India
12, SUDDER STREET, KOLKATA - 700 016
FINAL
GROUP - IV
PAPER - 16

First Edition : January 2008
Revised Edition : March 2009
Published by:
Directorate of Studies
The Institute of Cost and Works Accountants of India
12, SUDDER STREET, KOLKATA - 700 016
Printed at : Repro India Limited,
50/2, TTC MIDC Industrial Area, Mahape, Navi Mumbai - 400 710, India
Copyright of these Study Notes in reserved by the Institute of Cost and Works Accountants
of India and prior permission from the Institute is necessary for reproduction of the whole
or any part thereof.

CONTENTS
Page No.
Study Note - 1
Introduction to IAS, USGAAP, Indian Accounting Standard 1
1.1 Framework of Accounting 2
1.1.1 Introduction 2
1.1.2 Meaning of Accounting 2
1.1.3 Objectives and Functions of Accounting 3
1.1.4 Fundamental Accounting Assumptions
1.1.5 Limitations of Accounting 4
1.1.6 Financial Statements
1.1.7 Qualitative Characteristics of Financial Statements 5
1.2 Accounting Standards - Applicability, Interpretation, Scope and Compliance 7
1.3 US GAAPS 10
1.3.1 Established Accounting Principles in the US 10
1.3.2 Other Accounting Literature 11
1.3.3 AICPA 11
1.3.4 FASB 11
1.3.5 Components of US GAAP 11
1.4 International Accounting Standards 13
1.4.2 Extract of the International Accounting Standards 13
1.5 International Financial Reporting Standards 29
1.6 A Comparison IGAAP - US GAAP - IFRS 39
Study Note - 2
Preparation of Company Accounts under Various Circumstances 49
2.1 Merger and Acqusitions 50
2.1.2 What is Merger? 50
2.1.3 Varieties of Mergers 51
2.1.4 Acquisitions 51
2.1.5 Types of Acquisitions 52
2.2 Accounting for Mergers and Acquisitions 54
2.2.1 Under the Pooling of Interest Method: 55
2.2.2 How to Value an Acquisition Candidate 60
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Page No.
2.2.3 60
2.2.4 Valuation Procedures 61
2.3 External Reconstruction 62
Problems 66
I. Computation and Discharge of Purchase Consideration 66
II. Basics of Amalgamation and Absorption 73
III. Purchasing Company holding shares in Selling Company 118
IV Selling Company holding shares in Purchasing Company 142
V Cross Holding 146
VI Chain Holding 155
VII Internal Reconstruction 158
VIII Reverse Merger 171
IX External Reconstruction 176
X Surrender of Shares 179
XI Demerger 182
XII Sales of Division 205
XIII Impact of Reconstruction over Wealth of Investor and Company 208
XIV Buy back of Shares 211
XV Conversion 217
Study Note - 3
Group Financial Statements 225
Theory 226
3.1 Holding Company 226
3.1.1 Methods of Combining 226
3.2 Accounting Treatment 227
3.3 Preparation of The Group Cash Flow Statement: 299
Problems 304
Study Note - 4
Segmental Reporting 333
4.1 Introduction 334
4.2 Need for Segmental Reporting 334
4.3 Arguments Against Segmental Reporting 335
4.4 International Scenario 336
Source of Gains from Acquisitions

Page No.
4.5 The Indian Scenario 344
4.5.1 Definitions 344
4.5.2 Disclosure Requirements 347
4.5.3 347
4.6 Segmental Reporting Problems & Difficulties 349
4.7 Specific Issues Relating to Management Accountants 351
4.8 Segmental Disclosure – An Practical Example 355
Problems 359
Study Note - 5
Development in External Reporting 363
5.1 Indian Accounting Standards 364
5.1.1 Companies (Accounting Standards) Rules, 2006 364
5.1.2 Applicability of Accounting Standard to Non-corporate Entities 366
5.2 Accounting Standards 369
5.3 Financial Reporting across the world 447
5.4 Post Balance Sheet Events 451
5.5 External Reporting under Capital Market Regulation 453
5.6 Value Added Statement 468
5.7 Economic Value Addes Statement 481
5.7.1 Human Resource Accounting 486
5.8 Environmental Accounting 486
5.9 Guidance Notes on Accounting for Tax Matters 490
5.10 Guidance Notes on Derivatives 507
5.11 Guidance Notes for Special Business / Reports 530
Study Note - 6
Government Accounting in India 545
6.1 Government Accounting in India 546
6.2 General Principles of Government Accounting 546
6.3 Methods of Government Accounting 547
6.4 Comparison With Commercial Accounting 547
6.5 Comptroller and Auditor General of India 548
6.6 Audit of Government Companies (Commercial Audit) 548
6.7 Audit Board Setup in Commercial Audit 548
Accounting and Auditing Issues

Page No.
Section - 11 Comptroller And Auditor General to Prepare And Submit Accounts to the
President, Governors of State and Administrators of Union Territories Having
Legislative Assemblies 550
6.8 Public Accounts Committee: 550
Role of Public Accounts Committee 555
6.9 Committee on Public Undertakings 556
6.10 Specimen Report 557

Introduction to
IAS, USGAAP,
Indian
Accounting
Standard
STUDY NOTE - 1
This Study Note includes:
• Framework of Accounting
• Indian Accounting Standard
• US GAAP
• International Financial Reporting Standards
• Comparative Analysis of the Indian Accounting
Standard IFRS and USGAAP

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Framework of Accounting
1.1 Framework of Accounting
1.1.1 Introduction:
Most of the world’s work is done through organizations-groups of people who work together to
accomplish one or more objectives. In doing its work, an organization uses resources-labor, materials,
various services, buildings, and equipment. These resources need to be financed, or paid for. To work
effectively, the people in an organization need information about the amounts of these resources, the
mean of financing them and the results achieved through using them. Parties outside the organization
need similar information to make judgments about the organization. Accounting is a system that provides
such information.
Organizations can be classified broadly as either for-profit or nonprofit. As these names suggest, a
dominant purpose of organizations in the former category is to earn a profit, whereas organizations in
the latter category have other objectives, such as governing, providing social services, and providing
education. Accounting is basically similar in both types of organizations.
1.1.2 Meaning of Accounting:
The Committee on Terminology set up by the American Institute of Certified Public Accountants
formulated the following definition of accounting in 1961:
“Accounting is the art of recording, classifying, and summarizing in a significant manner and in terms of
money, transactions and events which are, in part at least, of a financial character, and interpreting the
result thereof.
As per this definition, accounting is simply an art of record keeping. The process of accounting starts
by first identifying the events and transactions which are of financial character and then be recorded
in the books of account. This recording is done in Journal or subsidiary books, also known as primary
books. Every good record keeping system includes suitable classification of transactions and events as
well as their summarization for ready reference. After the transaction and events are recorded, they are
transferred to secondary books. i.e. Ledger. In ledger transactions and events are classified in terms of
income, expense, assets and liabilities according to their characteristics and summarized in profit & loss
account and balance sheet. Essentially the transactions and events are to be measured in terms of money.
Measurement in terms of money means measuring at the ruling currency of a country, for example, rupee
in India, dollar in the U.S.A. and like. The transactions and events must have at least in par, financial
characteristics. The inauguration of a new branch of a bank is an event without having financial character,
while the business disposed of by the branch is an event having financial character. Accounting also
interprets the recorded, classified and summarized transactions and events.
1.1.3 Objectives and Functions of Accounting:
The main objectives are Systematic recording of transactions, Ascertainment of results of recorded
transactions and the financial position of the business, providing information to the users for rational
decision-making and to know the solvency position. The functions of accounting are Measurement,
Forecasting, Decision-making, Comparison & Evaluation, Control, Government Regulation and Taxation.

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Advanced Financial Accounting & Reporting
Accounting concepts
Accounting concepts define the assumptions on the basis of which financial statements of a business
entity are prepared. Certain concepts are perceived, assumed and accepted in accounting to provide
a unifying structure and internal logic to accounting process. The word concept means idea or notion,
which has universal application. Financial transactions are interpreted in the light of the concepts, which
govern accounting methods. Concepts are those basic assumptions and conditions, which form the basis
upon which the accountancy has been laid. Unlike physical science, accounting concepts are only result
of broad consensus. These accounting concepts lay the foundation on the basis of which the accounting
principles are formulated.
Accounting principles
“Accounting principles are a body of doctrines commonly associated with the theory and procedures of
accounting serving as an explanation of current practices and as a guide for selection of conventions or
procedures where alternatives exists.”
Accounting principles must satisfy the following conditions:
1. They should be based on real assumptions;
2. They must be simple, understandable and explanatory;
3. They must be followed consistently;
4. They should be able to reflect future predictions;
5. They should be informational for the users.
Accounting conventions
Accounting conventions emerge of accounting practices, commonly known as accounting, principles,
adopted by various organizations above a period of time. These conventions are derived by usage and
practice. The accountancy bodies of the world may change any of the convention to improve the quality
of accounting information. Accounting conventions need not have universal application.
1.1.4 Fundamental Accounting Assumptions
The Financial Statements are prepared with the following three Fundamental Accounting Assumptions.
Unless otherwise specified the readers of the Financial Statements assume that the Financial Statements
are prepared in line with these assumptions. They are Going Concern, Consistency & Accrual. Accounting
Standard 1 describes them as follows
Going Concern: The enterprise is normally viewed as a going concern, that is, as continuing in operation
for the foreseeable future. It is assumed that the enterprise has neither the intention nor the necessity of
liquidation or of curtailing materially the scale of the operations.
Consistency It is assumed that accounting policies are consistent from one period to another.
Accrual Revenues and costs are accrued, that is, recognised as they are earned or incurred (and not as
money is received or paid) and recorded in the financial statements of the periods to which they relate.
(The considerations affecting the process of matching costs with revenues under the accrual assumption
are not dealt with in this Statement.)

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1.1.5 Limitations of Accounting:
The Financials Statements are prepared on the basis of the above-mentioned assumptions, conventions
and the Accounting Principles which the accountant chooses to adopt. These bring in lot of subjectivity
to the Financial Statements and hence these basis assumptions conventions and principles become the
limitation of accounting.
The Financial Statements as the name states, accounts only for the items that can be measured by Money.
There are lots of items that money cannot measure but still are the most valuable assets for the enterprise,
like Human Resources, which the Financial Statements does not depict.
The language of accounting has certain practical limitations and, therefore, the financial statements should
be interpreted carefully keeping in mind all various factors influencing the true picture.
1.1.6 Financial Statements
Financial statements form part of the process of financial reporting. A complete set of financial statements
normally includes a balance sheet, a statement of profit and loss (also known as ‘income statement’), a
cash flow statement and those notes and other statements and explanatory material that are an integral
part of the financial statements. They may also include supplementary schedules and information based
on or derived from, and expected to be read with, such statements. Such schedules and supplementary
information may deal, for example, with financial information about business and geographical segments,
and disclosures about the effects of changing prices. Financial statements do not, however, include such
items as reports by directors, statements by the chairman, discussion and analysis by management and
similar items that may be included in a financial or annual report.
Users and Their Information Needs
The users of financial statements include present and potential investors, employees, lenders,
suppliers and other trade creditors, customers, governments and their agencies and the public. They
use financial statements in order to satisfy some of their information needs. These needs include the
following:
(a) Investors. The providers of risk capital are concerned with the risk inherent in, and return provided by,
their investments. They need information to help them determine whether they should buy, hold or
sell. They are also interested in information which enables them to assess the ability of the enterprise
to pay dividends.
(b) Employees. Employees and their representative groups are interested in information about the stability
and profitability of their employers. They are also interested in information which enables them
to assess the ability of the enterprise to provide remuneration, retirement benefits and employment
opportunities.
(c) Lenders. Lenders are interested in information which enables them to determine whether their loans,
and the interest attaching to them, will be paid when due.
(d) Suppliers and other trade creditors. Suppliers and other creditors are interested in information which
enables them to determine whether amounts owing to them will be paid when due. Trade creditors
are likely to be interested in an enterprise over a shorter period than lenders unless they are dependent
upon the continuance of the enterprise as a major customer.

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(e) Customers. Customers have an interest in information about the continuance of an enterprise, especially
when they have a long-term involvement with, or are dependent on, the enterprise.
(f) Governmentsandtheiragencies.Governmentsandtheiragenciesareinterestedintheallocationofresources
and, therefore, the activities of enterprises. They also require information in order to regulate the
activities of enterprises and determine taxation policies, and to serve as the basis for determination
of national income and similar statistics.
(g) Public. Enterprises affect members of the public in a variety of ways. For example, enterprises may
make a substantial contribution to the local economy in many ways including the number of people
they employ and their patronage of local suppliers. Financial statements may assist the public by
providing information about the trends and recent developments in the prosperity of the enterprise
and the range of its activities.
The Objective of Financial Statements
The objective of financial statements is to provide information about the financial position, performance
and cash flows of an enterprise that is useful to a wide range of users in making economic decisions.
Financial statements prepared for this purpose meet the common needs of most users. However, financial
statements do not provide all the information that users may need to make economic decisions since
(a) they largely portray the financial effects of past events, and
(b) do not necessarily provide non-financial information.
1.1.7 Qualitative Characteristics of Financial Statements
Qualitative characteristics are the attributes that make the information provided in financial statements
useful to users. The qualitative characteristics are
• Understandability
• Relevance
• Reliability
• Comparability.
• Faithful Representation
• Substance Over Form
• Neutrality
• Prudence
• Completeness
Among these characteristics most important are Prudence and Substance over form.
Prudence
The preparers of financial statements have to contend with the uncertainties that inevitably surround many
events and circumstances, such as the collectability of receivables, the probable useful life of plant and
machinery, and the warranty claims that may occur. Such uncertainties are recognised by the disclosure

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of their nature and extent and by the exercise of prudence in the preparation of the financial statements.
Prudence is the inclusion of a degree of caution in the exercise of the judgements needed in making the
estimatesrequiredunderconditionsofuncertainty,suchthatassetsorincomearenotoverstatedandliabilities
orexpensesarenotunderstated.However,theexerciseofprudencedoesnotallow,forexample,thecreation
of hidden reserves or excessive provisions, the deliberate understatement of assets or income, or the
deliberate overstatement of liabilities or expenses, because the financial statements would then not be
neutral and, therefore, not have the quality of reliability.
Substance Over Form
If information is to represent faithfully the transactions and other events that it purports to represent,
it is necessary that they are accounted for and presented in accordance with their substance and
economic reality and not merely their legal form. The substance of transactions or other events is not
always consistent with that which is apparent from their legal or contrived form. For example, where
rights and beneficial interest in an immovable property are transferred but the documentation and
legal formalities are pending, the recording of acquisition/disposal (by the transferee and transferor
respectively) would in substance represent the transaction entered into.
Accounting Standards
Accounting standards codify acceptable accounting practices. They are the primary source of the
Generally Accepted Accounting Principles (GAAP) and, therefore, they are at the top in the hierarchy
of GAAP. Other sources of GAAP are technical pronouncements issued by various professional
bodies, regulating the accounting and auditing profession, that stipulate accounting principles and
methods.
Accounting standards are issued by institutions that are authorized to set accounting standards. The
standard-setting body that issues accounting standards is constituted by representatives from various
stake holders such as the accounting profession, the industry and regulators. The process of formulating
standards is a long ‘due-diligence’ process. The process is somewhat akin to a ‘political process’ because
the objective is to establish accounting standards.
(a) that are practical in the sense that those can be implemented with reasonable costs and efforts; and
(b) that are acceptable to all stake holders.
Most countries have their own accounting standard setting bodies. In USA Statements of Financial
Accounting Standards (SFAS) are issued by the Financial Accounting Standards Board (FASB). In
India accounting standards are issued by the Institute of Chartered Accountants of India (ICAI). With
globalization of capital markets, a trend towards convergence of accounting practices in different
territories emerged in 1970s. The International Account Standards Committee (IASC) was formed in 1973
to formulate International Accounting Standards (IAS). In 2001 IASC was restructured and now it is known
as International Accounting Standards Board (IASB). Accounting standards issued by IASB are called
International Financial Reporting Standards (IFRS). Each territory (a country or a group of countries like
European Union) has initiated actions to harmonise its accounting practices with accounting principles
and methods stipulated in IAS / IFRS. Many countries use IAS / IFRS without modification.
Details of Indian Accounting Standards, US GAAP and IFRS are discussed in the ensuing Sections.

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l.2 Accounting Standards - Applicability, Interpretation, Scope and Compliance
Introduction
Accounting standards are written , policy documents issued by expert accounting body or by Government
or other regulatory authorities covering the aspects of recognition, measurement, treatment, presentation
and disclosure of accounting transaction in the financial statement.
The main purpose of formulating accounting standard is to standardize the diverse accounting policies
with a view to eliminate to the extent possible the incomparability of information provided in financial
statements and add reliability to such financial statements. To discuss on whether such standards are
necessary in present days it will be beneficial to go through the advantages and disadvantages which they
are said to provide.
ADVANTAGES:
1. It provides the accountancy profession with useful working rules.
2. It assists in improving quality of work performed by accountant.
3. It strengthens the accountant’s resistance against the pressure from directors to use accounting policy
which may be suspect in that situation in which they perform their work.
4. It ensures the various users of financial statements to get complete crystal information on more
consistent basis from period to period.
5. It helps the users compare the financial statements of two or more organisaitons engaged in same
type of business operation.
DISADVANTAGES:
1. Users are likely to think that said statements prepared using accounting standard are infallible.
2. They have been derived from social pressures which may reduced freedom.
3. The working rules may be rigid or bureaucratic to some user of financial statement.
4. The more standards there are, the more costly the financial statements are to produce.
Accounting Title of Accounting Standard
Standard No.
AS-1 Disclosure of Accounting Policies
AS-2 Valuation of Inventories (Revised)
AS- 3 Cash Flow Statements (Revised)
AS-4 Contingencies and Events (Occurring after the Balance Sheet Date)
AS-5 Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies
(Revised)
AS-6 Depreciation Accounting
AS-7 Construction Contracts (Revised)
AS- 8 Accounting for Research and Development (stands withdrawn after introduction of AS-26)

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AS-9 Revenue Recognition
AS-10 Accounting for Fixed Assets.
AS-11 The Effect of Changes in Foreign Exchange Rates (Revised)
AS-12 Accounting for Government Grants
AS-13 Accounting for Investments
AS-14 Accounting for Amalgamations
AS-15 Employee Beneﬁts (Revised)
AS-16 Borrowing Cost
AS-17 Segment Reporting
AS-18 Related Party Disclosures
AS-19 Leases
AS-20 Earnings Per Share
AS-21 Consolidated Financial Statements
AS-22 Accounting for Taxes on Income
AS-23 Accounting for Investment in Associates in Consolidated Financial Statements
AS-24 Discontinuing Operations
AS-25 Interim Financial Reporting
AS-26 Intangible Assets
AS-27 Financial Reporting of Interests in Joint Venture
AS-28 Impairment of Assets
AS-29 Provisions, Contingent Liabilities and Contingent Assets
AS-30 Financial Instruments: Recognition and Measurement
AS 31 Financial Instruments: Presentation
AS 32 Financial Instruments: Disclosures
Applicability of Accounting Standards:
A three tier classiﬁcation has been framed to ensure compliance of accounting standards for reporting
enterprises.
Level I Enterprises:
• Enterprises whose equity or debt securities are listed whether in India or outside India.
• Enterprises which are in the process of listing their equity or debt securities as evidenced by the
Board resolution in this regard.
• Banks including co-operative banks
• Financial institutions
• Enterprises carrying insurance business
• Enterprises whose turnover exceeds Rs.50 crores
• Enterprises having borrowings in excess of Rs.10 crores at any time during the accounting period.

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• Holding companies and subsidiaries of enterprises falling under any one of the categories mentioned
above.
Level II Enterprises:
• Enterprises whose turnover exceeds Rs.40 lakhs but does not exceed Rs.50 crores.
• Enterprises having borrowings in excess of Rs.1 crore but not in excess of Rs.10 crores at any time
during the accounting period.
• Holding companies and subsidiaries of enterprise falling under any one of the categories mentioned
above.
Level III Enterprises:
• Enterprises which are not covered under Level I and Level II.
Accounting Standard Applicability (Based on the three tier classiﬁcation)
AS1,2,4-16,22,26,28 All Enterprises
AS 3,17,18,24, Not applicable to Level II and Level III enterprises in their entirety.
AS 19,20,29 All enterprises but relaxation given to Level I and Level II enter prises for certain
disclosure requirements.
AS 21,23,27 Not applicable to Level II and Level III enterprises
AS 25 Not mandatorily applicable to Level II and Level III enterprises
AS 30,31,32 W.e.f. accounting periods commencing on or after 1-4-2009 and will be
recommendatory in nature for an initial period of two years.
It will be mandatory for on or after 1-4-2011 for all commercial, industrial and business entities except to
a Small and Medium-sized Entity.

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1.3 US GAAPS
GAAP refers to accounting policies and procedures that are widely used in practice. Unlike India where
accounting has its basis in law , US GAAP has evolved to be a collection of pronouncements issued by a
particular accounting organization. US GAAP are the accounting rules used to prepare financial statements
forpubliclytradedcompaniesandmanyprivatecompaniesinUnitedStates.Generallyacceptedaccounting
principles for local and state governments operates under different set of assumptions, principles, and
constraints, as determined by the Governmental Accounting Standards Board. (GASB).
In the United States, as well as in other countries practicing under the English common law system,
the government does not set accounting standards, in the belief that the private sector has the better
knowledge and resources. The Securities and Exchange Commission (SEC) has the ultimate authority to
set US accounting and financial reporting standards for public (listed) companies. The SEC has delegated
this responsibility to the private sector led by the Financial Accounting Standards Board (FASB). Other
private sector bodies including the American Institute of Certified Public Accountants (AICPA) and the
FASB’s Emerging Issues Task Force(EITF) also establish authoritative accounting Standard Board(FIN)
also provide implementation and interpretation guidance. The SEC has the Statutory authority to establish
GAAP for filings made with it. While allowing most of the Standard settings to be done in the private
sector, the SEC is still very active in both its oversight responsibility as well as establishing guidance and
interpretations, as it believes appropriate. US GAAP have the reputation around the world of being more
perspective and detailed than accounting standards in other countries. In order to organize and make clear
what is meant by US GAAP, a GAAP hierarchy has been established which contains four categories of
accounting principles. The sources in the higher category carry more weight and must be followed when
conflicts arise. The table given below summaries the current GAAP hierarchy for financial statements of
non-governmental entities.
1.3.1 Established Accounting Principles in the US
Category(a)
Financials Accounting Standards Board(FASB) statements and Interpretations, American Institute of
Certified Public Accountants (AICPA), Accounting Principles Board (APB) Opinions , and AICPA
Accounting Research Bulletins(ARB).
Category(b)
FASB Technical Bulletins, cleared AICPA Industry Audit and Accounting Guides, and cleared AICPA
Statement of Position (SOPs).
Category(c)
Consensus positions of the FASB Emerging Issues Task Force (EITF) and cleared Accounting Standards
Executive Committee of AICPA(ACSEC)Practice Bulletins.
Category(d)
AICPA Accounting Interpretations, FASB Implementation Guides (QSAs), and widely recognized and
prevalent Industry practices.

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1.3.2 Other Accounting literature
Other accounting literature, including FASB concepts statements, APB Statements; AICPA Issues Papers;
International Accounting Standards Committee Statements; Pronouncements of other professional
associations or regulatory agencies ; AICPA Technical Practice Aids; and accounting textbooks, handbooks,
and articles.
The US GAAP provisions differ somewhat from International Financial Reporting Standards though
efforts are underway to reconcile the differences so that reports created under international standards
will be acceptable to the SEC for companies listed on US markets.
1.3.3 AICPA
The AICPA sets generally accepted professional and technical standards for CPAs in many areas. Until
the 1970’s, the AICPA held a monopoly in this field. In the 1970’s however, it transferred its responsibility
for setting generally accepted accounting principles (GAAP) to the newly formed Financial Accounting
Standards Board (FASB). Following this, it retained its standards setting function in areas such as financial
statement auditing, professional ethics, attest services, CPA firm quality control , CPA tax practice and
financial planning practice. Before passage of the Sarbanes-Oxley law, AICPA standards in these areas
were considered “generally accepted” for all CPA practitioners.
Accounting Principles Board(APB) Opinions were published by Accounting Principles Board(APB). APB
was the main organization setting the US GAAP and its opinions are still an important part of it.
1.3.4 FASB
The Financial Accounting Standards Boards(FASB) is private, not-for- profit organization whose primary
purpose is to develop generally accepted accounting principles in the United States (US GAAP). The
FASB’s mission for the private sector is similar to that of the Governmental Accounting Standards Board for
local and state governments in the United States. The FASB was created in1973, replacing the Accounting
Principles Board of the American Institute of Certified Public Accountants (AICPA). The FASB.s mission is
‘to establish and improve standards of financial accounting and reporting for the guidance and education
of the public, including issuers, auditors, and users of financial information.”
The U.S. Securities and Exchange Commission (SEC) has statutory authority to establish financial
accounting and reporting standards for publicly held companies under Securities Exchange Act of 1934.
The SEC designated the FASB as the organization responsible for setting accounting standards for public
companies in the U.S.
FASB has so far issued 158 Statements of Financial Accounting Standards (FAS).
1.3.5 Components of US GAAP
Given below are important components of US GAAP:
• FASB Statement of Financial Accounting Standards (FAS).
• FASB Interpretations(FIN).

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• FASB Statements of Financual Accounting Concepts(FAS Conc.)
• FASB Technical Bulletins(FTB).
• AICPA Accounting Research Bulletins(ARB).
• AICPA Accounting Principles Board Opinions(APB Opinions)
• AICPA Accounting Interpretations(AIN)
Not only there are an extremely large number of different standards under US GAAP, the volume
and complexity is also increasing. This complexity of US GAAP makes it critically important that the
independent accountants that are assisting a company in ﬁling with SEC are acknowledgeable and experts
in US GAAP.

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1.4 International Accounting Standards
1.4.1 Introduction
The International Accounting Standard Board (IASB) was formulated and began in operations in 2001.
The objective of IASB is as follows
“Committed to developing, in public interest, asingle set of high quality, global accouting standards that require
transparent and comparable information in general purpose financial statements”
The IASB is selected, overseen and funded by the International Accounting Standards Committee (IASC)
Foundation, consisting of 22 trustees. The responsibility of the trustees, besides others include,
• Appointment of members of the IASB and Standards Advisory Council and the IFRIC
• Monitoring the IASB’s effectiveness and adherence to its due process and consultation procedures
• Establishing and maintaining appropriate financing arrangement
• Approve of the budget for the IASC Foundation and
• Responsibility for constitution changes.
1.4.2 Extract of the International Accounting Standards
The following are the Extract of the International Accounting Standards and International Financial
Reporting Standards, prepared by IASC Foundation staff (The same has not been approved by the IASB.
For the requirements reference must be made to International Financial Reporting Standards.)
International Accounting Standard 1
Presentation of Financial Statements
Objective
This Standard prescribes the basis for presentation of general purpose financial statements to ensure
comparability both with the entity’s financial statements of Previous periods and with the financial
statements of other entities. It sets out overall requirements for the presentation of financial statements,
guidelines for their structure and minimum requirements for their content.
Scope
An entity shall apply this Standard in preparing and presenting general purpose financial statements
in accordance with International Financial Reporting Standards (IFRSs).
IAS 2 In Ventories
International Accounting Standard 2 Inventories (IAS 2) replaces IAS 2 Inventories (revised in 1993)
and should be applied for annual periods beginning on or after 1 January 2005. Earlier application is
encouraged. The Standard also supersedes SIC-1 Consistency—Different Cost Formulas for Inventories.

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Reasons for revising IAS 2
The International Accounting Standards Board developed this revised IAS 2 as part of its project on
Improvements to International Accounting Standards. The project was undertaken in the light of queries
and criticisms raised in relation to the Standards by securities regulators, professional accountants and
other interested parties. The objectives of the project were to reduce or eliminate alternatives, redundancies
and conflicts within the Standards, to deal with some convergence issues and to make other improvements.
For IAS 2 the Board’s main objective was a limited revision to reduce alternatives for the measurement
of inventories. The Board did not reconsider the fundamental approach to accounting for inventories
contained in IAS 2.
Objective and scope
The objective and scope paragraphs of IAS 2 were amended by removing the words ‘held under the
historical cost system’, to clarify that the Standard applies to all inventories that are not specifically
excluded from its scope.
Scope clarification
IN6 The Standard clarifies that some types of inventories are outside its scope while certain other types of
inventoriesareexemptedonlyfromthemeasurementrequirementsintheStandard.Paragraph3establishes
a clear distinction between those inventories that are entirely outside the scope of the Standard (described
in paragraph 2) and those inventories that are outside the scope of the measurement requirements but
within the scope of the other requirements in the Standard.
Statement of Cash Flows*
Objective
Information about the cash flows of an entity is useful in providing users of financial statements with a
basis to assess the ability of the entity to generate cash and cash equivalents and the needs of the entity to
utilise those cash flows. The economic decisions that are taken by users require an evaluation of the ability
of an entity to generate cash and cash equivalents and the timing and certainty of their generation. The
objective of this Standard is to require the provision of information about the historical changes in cash
and cash equivalents of an entity by means of a statement of cash flows which classifies cash flows during
the period from operating, investing and financing activities.
Scope
An entity shall prepare a statement of cash flows in accordance with the requirements of this Standard and
shall present it as an integral part of its financial statements for each period for which financial statements
are presented.
This Standard supersedes IAS 7 Statement of Changes in Financial Position, approved in July 1977.
Users of an entity’s financial statements are interested in how the entity generates and uses cash and cash
equivalents. This is the case regardless of the nature of the entity’s activities and irrespective of whether
cash can be viewed as the product of the entity, as may be the case with a financial institution. Entities
need cash for essentially the same reasons however different their principal revenue-producing activities
might be. They need cash to conduct their operations, to pay their obligations, and to provide returns to
their investors. Accordingly, this Standard requires all entities to present a statement of cash flows.

15
Accounting Policies, Changes in Accounting Estimates and Errors
Objective
The objective of this Standard is 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 corrections of errors. The Standard is intended to enhance the relevance and
reliability of an entity’s financial statements, and the comparability of those financial statements over time
and with the financial statements of other entities.
Disclosure requirements for accounting policies, except those for changes in accounting policies, are
set out in IAS 1 Presentation of Financial Statements.
Scope
This Standard shall be applied in selecting and applying accounting policies, and accounting for changes
in accounting policies, changes in accounting estimates and corrections of prior period errors.
The tax effects of corrections of prior period errors and of retrospective adjustments made to apply changes
in accounting policies are accounted for and disclosed in accordance with IAS 12 Income Taxes.
Events after the Reporting Period
Objective
The objective of this Standard is to prescribe:
(a) when an entity should adjust its financial statements for events after the reporting period; and
(b) the disclosures that an entity should give about the date when the financial statements were authorised
for issue and about events after the reporting period.
The Standard also requires that an entity should not prepare its financial statements on a going concern
basis if events after the reporting period indicate that the going concern assumption is not appropriate.
Scope
This Standard shall be applied in the accounting for, and disclosure of, events after the reporting period.
Construction Contracts
Objective
Scope
This Standard shall be applied in accounting for construction contracts in the financial statements of
contractors.
Definitions
The following terms are used in this Standard with the meanings specified:
A construction contract is a contract specifically negotiated for the construction of an asset or a combination

16
of assets that are closely interrelated or interdependent in terms of their design, technology and function
or their ultimate purpose or use.
A fixed price contract is a construction contract in which the contractor agrees to a fixed contract price, or
a fixed rate per unit of output, which in some cases is subject to cost escalation clauses.
A cost plus contract is a construction contract in which the contractor is reimbursed for allowable or
otherwise defined costs, plus a percentage of these costs or a fixed fee.
Income Taxes
Objective
The objective of this Standard is to prescribe the accounting treatment for income taxes. The principal
issue in accounting for income taxes is how to account for the current and future tax consequences
of:
(a) The future recovery (settlement) of the carrying amount of assets (liabilities) that are recognized in
an entity’s statement of financial position; and
(b) Transactions and other events of the current period that are recognized in an entity’s financial
statements.
It is inherent in the recognition of an asset or liability that the reporting entity expects to recover or settle
the carrying amount of that asset or liability. If it is probable that recovery or settlement of that carrying
amount will make future tax payments larger (smaller) than they would be if such recovery or settlement
were to have no tax consequences, this Standard requires an entity to recognize a deferred tax liability
(deferred tax asset), with certain limited exceptions.
Scope
This Standard shall be applied in accounting for income taxes.
Property, Plant and Equipment
Objective
The objective of this Standard is to prescribe the accounting treatment for property, plant and equipment so
that users of the financial statements can discern information about an entity’s investment in its property,
plant and equipment and the changes in such Investment. The principal issues in accounting for property,
plant and equipment are the recognition of the assets, the determination of their carrying amounts and the
depreciation charges and impairment losses to be recognised in relation to them.
Scope
This Standard shall be applied in accounting for property, plant and equipment except when another
Standard requires or permits a different accounting treatment.

17
Leases
Objective
The objective of this Standard is to prescribe, for lessees and lessors, the appropriate accounting
policies and disclosure to apply in relation to leases.
Scope
This Standard shall be applied in accounting for all leases other than:
(a) leases to explore for or use minerals, oil, natural gas and similar non-regenerative resources; and
(b) licensing agreements for such items as motion picture films, video recordings, plays, manuscripts,
patents and copyrights.
However, this Standard shall not be applied as the basis of measurement for:
(a) property held by lessees that is accounted for as investment property (see IAS 40 Investment
Property);
(b) investment property provided by lessors under operating leases (see IAS 40);
(c) biological assets held by lessees under finance leases (see IAS 41 Agriculture);
or
(d) biological assets provided by lessors under operating leases (see IAS 41).
Revenue
Objective
Income is defined in the Framework for the Preparation and Presentation of Financial Statements as
increases in economic benefits during the accounting period in the form of inflows or enhancements of
assets or decreases of liabilities that result in increases in equity, other than those relating to contributions
from equity participants. Income encompasses both revenue and gains. Revenue is income that arises in
the course of ordinary activities of an entity and is referred to by a variety of different names including
sales, fees, interest, dividends and royalties.
The objective of this Standard is to prescribe the accounting treatment of revenue arising from certain
types of transactions and events.
The primary issue in accounting for revenue is determining when to recognize revenue. Revenue is
recognised when it is probable that future economic benefits will flow to the entity and these benefits can
be measured reliably. This Standard identifies the circumstances in which these criteria will be met
and, therefore, revenue will be recognised. It also provides practical guidance on the application of
these criteria.

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Scope
This Standard shall be applied in accounting for revenue arising from the
following transactions and events:
(a) the sale of goods;
(b) the rendering of services; and
(c) the use by others of entity assets yielding interest, royalties and dividends.
Employee Benefits
Objective
The objective of this Standard is to prescribe the accounting and disclosure for employee benefits. The
Standard requires an entity to recognise:
(a) a liability when an employee has provided service in exchange for employee benefits to be paid in the
future; and
(b) an expense when the entity consumes the economic benefit arising from service provided by an
employee in exchange for employee benefits.
Scope
This Standard shall be applied by an employer in accounting for all employee benefits, except those to
which IFRS 2 Share-based Payment applies.
Accounting for Government Grants and Disclosure of Government Assistance
Scope
This Standard shall be applied in accounting for, and in the disclosure of, government grants and in the
disclosure of other forms of government assistance.
This Standard does not deal with:
(a) the special problems arising in accounting for government grants in financial statements reflecting
the effects of changing prices or in supplementary information of a similar nature;
(b) government assistance that is provided for an entity in the form of benefits that are available in
determining taxable income or are determined or limited on the basis of income tax liability (such
as income tax holidays, investment tax credits, accelerated depreciation allowances and reduced
income tax rates);
(c) government participation in the ownership of the entity;
(d) government grants covered by IAS 41 Agriculture.

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The Effects of Changes in Foreign Exchange Rates
International Accounting Standard 21 The Effects of Changes in Foreign Exchange Rates (IAS 21) replaces
IAS 21 The Effects of Changes in Foreign Exchange Rates (revised in 1993), and should be applied for
annual periods beginning on or after 1 January 2005. Earlier application is encouraged. The Standard also
replaces the following
Interpretations:
• SIC-11 Foreign Exchange—Capitalisation of Losses Resulting from Severe Currency Devaluations
• SIC-19 Reporting Currency—Measurement and Presentation of Financial Statements under IAS 21 and IAS
29
• SIC-30 Reporting Currency—Translation from Measurement Currency to Presentation Currency.
Scope
IN5 The Standard excludes from its scope foreign currency derivatives that are within the scope of IAS
39 Financial Instruments: Recognition and Measurement. Similarly, the material on hedge accounting has
been moved to IAS 39.
Borrowing Costs
Objective
Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying
asset form part of the cost of that asset. Other borrowing costs are recognised as an expense.
Scope
An entity shall apply this Standard in accounting for borrowing costs.
The Standard does not deal with the actual or imputed cost of equity, including preferred capital not
classified as a liability.
An entity is not required to apply the Standard to borrowing costs directly attributable to the
acquisition, construction or production of:
(a) a qualifying asset measured at fair value, for example a biological asset; or
(b) inventories that are manufactured, or otherwise produced, in large quantities on a repetitive basis.
This Standard uses the following terms with the meanings speciﬁed:
Borrowing costs are interest and other costs that an entity incurs in connection with the borrowing
of funds.
A qualifying asset is an asset that necessarily takes a substantial period of time to get ready for its
intended use or sale.
Borrowing costs may include:
(a) interest on bank overdrafts and short-term and long-term borrowings;

20
(b) amortisation of discounts or premiums relating to borrowings;
(c) amortisation of ancillary costs incurred in connection with the arrangement of borrowings;
(d) finance charges in respect of finance leases recognised in accordance with IAS 17 Leases; and
(e) exchange differences arising from foreign currency borrowings to the extent that they are regarded
as an adjustment to interest costs.
Accounting and Reporting by Retirement Benefit Plans
Scope
This Standard shall be applied in the financial statements of retirement benefit plans where such financial
statements are prepared.
Definitions
Retirement benefit plans are arrangements whereby an entity provides benefits for employees on or after
termination of service (either in the form of an annual income or as a lump sum) when such benefits, or the
contributions towards them, can be determined or estimated in advance of retirement from the provisions
of a document or from the entity’s practices.
Defined contribution plans are retirement benefit plans under which amounts to be paid as retirement
benefits are determined by contributions to a fund together with investment earnings thereon.
Defined benefit plans are retirement benefit plans under which amounts to be paid as retirement benefits
are determined by reference to a formula usually based on employees’ earnings and/or years of service.
Funding is the transfer of assets to an entity (the fund) separate from the employer’s entity to meet future
obligations for the payment of retirement benefits.
For the purposes of this Standard the following terms are also used:
Participants are the members of a retirement benefit plan and others who are entitled to benefits under
the plan.
Net assets available for benefits are the assets of a plan less liabilities other than the actuarial present value
of promised retirement benefits.
Actuarial present value of promised retirement benefits is the present value of the expected payments by
a retirement benefit plan to existing and past employees, attributable to the service already rendered.
Vested benefits are benefits, the rights to which, under the conditions of a retirement benefit plan, are not
conditional on continued employment.

21
IAS 27 Consolidated and Separate Financial Statement
Objective
The objective of IAS 27 is to enhance the relevance, reliability and comparability of the information that a
parent entity provides in its separate financial statements and in its consolidated financial statements for
a group of entities under its control. The Standard specifies:
(a) the circumstances in which an entity must consolidate the financial statements of another entity
(being a subsidiary);
(b) the accounting for changes in the level of ownership interest in a subsidiary;
(c) the accounting for the loss of control of a subsidiary; and
(d) the information that an entity must disclose to enable users of the financial statements to evaluate the
nature of the relationship between the entity and its subsidiaries.
IAS 28 Investment in Associates
Introduction
International Accounting Standard 28 Investments in Associates replaces IAS 28 Accounting for Investments
in Associates (revised in 2000) and should be applied for annual periods beginning on or after 1 January
2005. Earlier application is encouraged. The Standard also replaces the following Interpretations:
• SIC-3 Elimination of Unrealized Profits and Losses on Transactions with Associates
• SIC-20 Equity Accounting Method—Recognition of Losses
• SIC-33 Consolidation and Equity Method—Potential Voting Rights and Allocation of Ownership Interests.
Scope
The Standard does not apply to investments that would otherwise be associates or interests of ventures
in jointly controlled entities held by venture capital organizations, mutual funds, unit trusts and similar
entities when those investments are classified as held for trading and accounted for in accordance with
IAS 39 Financial Instruments: Recognition and Measurement. Those investments are measured at fair value,
with changes in fair value recognized in profit or loss in the period in which they occur.
Furthermore, the Standard provides exemptions from application of the equity method similar to those
provided for certain parents not to prepare consolidated financial statements. These exemptions include
when the investor is also a parent exempt in accordance with IAS 27 Consolidated and Separate Financial
Statements from preparing consolidated financial statements (paragraph 13(b)), and when the investor,
though not such a parent, can satisfy the same type of conditions that exempt such parents (paragraph
13(c)).
Financial Reporting in Hyperinflationary Economies
This Standard shall be applied to the financial statements, including the consolidated financial
statements, of any entity whose functional currency is the currency of a hyperinflationary economy.

22
IAS 31
Introduction
IN1 International Accounting Standard 31 Interests in Joint Ventures (IAS 31) replaces IAS 31 Financial
Reporting of Interests in Joint Ventures (revised in 2000), and should be applied for annual periods
beginning on or after 1 January 2005. Earlier application is encouraged.
Scope
IN5 The Standard does not apply to investments that would otherwise be interests of venturers in jointly
controlled entities held by venture capital organisations, mutual funds, unit trusts and similar entities
when those investments are classified as held for trading and accounted for in accordance with IAS 39
Financial Instruments: Recognition and Measurement. Those investments are measured at fair value, with
changes in fair value being recognised in profit or loss in the period in which they occur. Furthermore, the
Standard provides exemptions from application of
proportionate consolidation or the equity method similar to those provided for certain parents not to
prepare consolidated financial statements. These exemptions include when the investor is also a parent
exemptinaccordancewithIAS27ConsolidatedandSeparateFinancialStatementsfrompreparingconsolidated
financial statements (paragraph 2(b)), and when the investor, though not such a parent, can satisfy the
same type of conditions that exempt such parents (paragraph 2(c)).
Financial Instruments: Presentation
Objective
The objective of this Standard is to establish principles for presenting financial instruments as liabilities or
equity and for offsetting financial assets and financial liabilities. It applies to the classification of financial
instruments, from the perspective of the issuer, into financial assets, financial liabilities and equity
instruments; the classification of related interest, dividends, losses and gains; and the circumstances in
which financial assets and financial liabilities should be offset.
The principles in this Standard complement the principles for recognising and measuring financial assets
and financial liabilities in IAS 39 Financial Instruments: Recognition and Measurement, and for disclosing
information about them in IFRS 7 Financial Instruments: Disclosures.
This Standard shall be applied by all entities to all types of financial instruments except:
(a) those interests in subsidiaries, associates and joint ventures that are accounted for in accordance with
IAS 27 Consolidated and Separate Financial Statements, IAS 28 Investments in Associates or IAS 31 Interests
in Joint Ventures. However, in some cases, IAS 27, IAS 28 or IAS 31 permits an entity to account for
an interest in a subsidiary, associate or joint venture using IAS 39; in those cases, entities shall apply
the disclosure requirements in IAS 27, IAS 28 or IAS 31 in addition to those in this Standard. Entities
shall also apply this Standard to all derivatives linked to interests in subsidiaries, associates or joint
ventures.
(b) employers’ rights and obligations under employee benefit plans, to which IAS 19 Employee Benefits
applies.

23
(c) [deleted]
(d) insurance contracts as defined in IFRS 4 Insurance Contracts. However, this Standard applies to
derivatives that are embedded in insurance contracts if IAS 39 requires the entity to account for them
separately. Moreover, an issuer shall apply this Standard to financial guarantee contracts if the issuer
applies IAS 39 in recognising and measuring the contracts, but shall apply IFRS 4 if the issuer elects,
in accordance with paragraph 4(d) of IFRS 4, to apply IFRS 4 in recognising and measuring them.
(e) financial instruments that are within the scope of IFRS 4 because they contain a discretionary
participation feature. The issuer of these instruments is exempt from applying to these features
paragraphs 15–32 and AG25–AG35 of this Standard regarding the distinction between financial
liabilities and equity instruments. However, these instruments are subject to all other requirements
of this Standard. Furthermore, this Standard applies to derivatives that are embedded in these
instruments (see IAS 39).
(f) financial instruments, contracts and obligations under share-based payment transactions to which
IFRS 2 Share-based Payment applies, except for
(i) contracts within the scope of paragraphs 8–10 of this Standard, to which this Standard applies,
(ii) paragraphs 33 and 34 of this Standard, which shall be applied to treasury shares purchased, sold,
issued or cancelled in connection with employee share option plans, employee share purchase
plans,
and all other share-based payment arrangements.
This Standard shall be applied to those contracts to buy or sell a non-financial item that can be settled net
in cash or another financial instrument, or by exchanging financial instruments, as if the contracts were
financial instruments, with the exception of contracts that were entered into and continue to be held for
the purpose of the receipt or delivery of a non-financial item in accordance with the entity’s expected
purchase, sale or usage requirements.
There are various ways in which a contract to buy or sell a non-financial item can be settled net in
cash or another financial instrument or by exchanging financial instruments. These include:
(a) when the terms of the contract permit either party to settle it net in cash or another financial instrument
or by exchanging financial instruments;
(b) when the ability to settle net in cash or another financial instrument, or by exchanging financial
instruments, is not explicit in the terms of the contract, but the entity has a practice of settling
similar contracts net in cash or another financial instrument, or by exchanging financial instruments
(whether with the counterparty, by entering into offsetting contracts or by selling the contract before
its exercise or lapse);
(c) when, for similar contracts, the entity has a practice of taking delivery of the underlying and selling it
within a short period after delivery for the purpose of generating a profit from short-term fluctuations
in price or dealer’s margin; and
(d) when the non-financial item that is the subject of the contract is readily convertible to cash. A contract
to which (b) or (c) applies is not entered into for the purpose of the receipt or delivery of the non-
financial item in accordance with the entity’s expected purchase, sale or usage requirements, and
accordingly, is within the scope of this Standard.

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Earnings per Share
Objective
The objective of this Standard is to prescribe principles for the determination and presentation of earnings
per share, so as to improve performance comparisons between different entities in the same reporting
period and between different reporting periods for the same entity. Even though earnings per share data
have limitations because of the different accounting policies that may be used for determining ‘earnings’,
a consistently determined denominator enhances financial reporting. The focus of this Standard is on the
denominator of the earnings per share calculation.
Scope
This Standard shall apply to
(a) the separate or individual financial statements of an entity:
(i) whose ordinary shares or potential ordinary shares are traded in a public market (a domestic
or foreign stock exchange or an over-the-counter market, including local and regional
markets) or
(ii) that files, or is in the process of filing, its financial statements with a securities commission
or other regulatory organisation for the purpose of issuing ordinary shares in a public
market; and
(b) the consolidated financial statements of a group with a parent:
(i) whose ordinary shares or potential ordinary shares are traded in a public market (a domestic
or foreign stock exchange or an over-the-counter market, including local and regional
markets) or
(ii) that files, or is in the process of filing, its financial statements with a securities commission or
other regulatory organisation for the purpose of issuing ordinary shares in a public market.
An entity that discloses earnings per share shall calculate and disclose earnings per share in accordance
with this Standard.
When an entity presents both consolidated financial statements and separate financial statements prepared
in accordance with IAS 27 Consolidated and Separate Financial Statements, the disclosures required by this
Standard need be presented only on the basis of the consolidated information. An entity that chooses to
disclose earnings per share based on its separate financial statements shall present such earnings per share
information only in its statement of comprehensive income. An entity shall not present such earnings per
share information in the consolidated financial statements.
If an entity presents the components of profit or loss in a separate income statement as described in
paragraph 81 of IAS 1 Presentation of Financial Statements (as revised in 2007), it presents earnings per share
only in that separate statement.

25
Interim Financial Reporting
Objective
Scope
This Standard does not mandate which entities should be required to publish interim financial reports, how
frequently, or how soon after the end of an interim period. However, governments, securities regulators,
stock exchanges, and accountancy bodies often require entities whose debt or equity securities are
publicly traded to publish interim financial reports. This Standard applies if an entity is required or elects
to publish an interim financial report in accordance with International Financial Reporting Standards. The
International Accounting Standards Committee* encourages publicly traded entities to provide interim
financial reports that conform to the recognition, measurement, and disclosure principles set out in this
Standard. Specifically, publicly traded entities are encouraged:
(a) to provide interim financial reports at least as of the end of the first half of their financial year; and
(b) to make their interim financial reports available not later than 60 days after the end of the interim
period.
Each financial report, annual or interim, is evaluated on its own for conformity to International Financial
Reporting Standards. The fact that an entity may not have provided interim financial reports during a
particular financial year or may have provided interim financial reports that do not comply with this
Standard does not prevent the entity’s annual financial statements from conforming to International
Financial Reporting Standards if they otherwise do so.
If an entity’s interim financial report is described as complying with International Financial Reporting
Standards, it must comply with all of the requirements of this Standard. Paragraph 19 requires certain
disclosures in that regard.
The objective of this Standard is to prescribe the minimum content of an interim financial report and to
prescribe the principles for recognition and measurement in complete or condensed financial statements
for an interim period. Timely and reliable interim financial reporting improves the ability of investors,
creditors, and others to understand an entity’s capacity to generate earnings and cash flows and its
financial condition and liquidity.
IAS 36 IMPAIRMENT OF ASSETS
Introduction
International Accounting Standard 36 Impairment of Assets (IAS 36) replaces IAS 36 Impairment of Assets
(issued in 1998), and should be applied:
(a) on acquisition to goodwill and intangible assets acquired in business combinations for which the
agreement date is on or after 31 March 2004.
(b) to all other assets, for annual periods beginning on or after 31 March 2004. Earlier application is
encouraged.

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Impairment of Assets
Objective
The objective of this Standard is to prescribe the procedures that an entity applies to ensure that its assets
are carried at no more than their recoverable amount. An asset is carried at more than its recoverable
amount if its carrying amount exceeds the amount to be recovered through use or sale of the asset. If
this is the case, the asset is described as impaired and the Standard requires the entity to recognise an
impairment loss. The Standard also speciﬁes when an entity should reverse an impairment loss and
prescribes disclosures.
Scope
This Standard shall be applied in accounting for the impairment of all assets,
other than:
(a) inventories (see IAS 2 Inventories);
(b) assets arising from construction contracts (see IAS 11 Construction Contracts);
(c) deferred tax assets (see IAS 12 Income Taxes);
(d) assets arising from employee benefits (see IAS 19 Employee Benefits);
(e) financial assets that are within the scope of IAS 39 Financial Instruments: Recognition and
Measurement;
(f) investment property that is measured at fair value (see IAS 40 Investment Property);
(g) biological assets related to agricultural activity that are measured at fair value less estimated point-
of-sale costs (see IAS 41 Agriculture);
(h) deferred acquisition costs, and intangible assets, arising from an insurer’s contractual rights under
insurance contracts within the scope of IFRS 4 Insurance Contracts; and
(i) non-current assets (or disposal groups) classified as held for sale in accordance with IFRS 5 Non-
current Assets Held for Sale and Discontinued Operations.
Provisions, Contingent Liabilities and Contingent Assets
Objective
The objective of this Standard is to ensure that appropriate recognition criteria and measurement bases
are applied to provisions, contingent liabilities and contingent assets and that sufﬁcient information is
disclosed in the notes to enable users to understand their nature, timing and amount.
Scope
This Standard shall be applied by all entities in accounting for provisions, contingent liabilities and
contingent assets, except:
(a) those resulting from executory contracts, except where the contract is onerous; and

27
(b) [deleted]
(c) those covered by another Standard.
Intangible Assets
Objective
The objective of this Standard is to prescribe the accounting treatment for intangible assets that are not
dealt with specifically in another Standard. This Standard requires an entity to recognise an intangible
asset if, and only if, specified criteria are met. The Standard also specifies how to measure the carrying
amount of intangible assets and requires specified disclosures about intangible assets.
Scope
This Standard shall be applied in accounting for intangible assets, except:
(a) intangible assets that are within the scope of another Standard;
(b) financial assets, as defined in IAS 32 Financial Instruments: Presentation;
(c) the recognition and measurement of exploration and evaluation assets (see IFRS 6 Exploration for and
Evaluation of Mineral Resources); and
(d) expenditure on the development and extraction of, minerals, oil, natural gas and similar non-
regenerative resources.
Financial Instruments: Recognition and Measurement
Objective
The objective of this Standard is to establish principles for recognising and measuring financial assets,
financial liabilities and some contracts to buy or sell non-financial items. Requirements for presenting
information about financial instruments are in IAS 32 Financial Instruments: Presentation. Requirements for
disclosing information about financial instruments are in IFRS 7 Financial Instruments: Disclosures.
Scope
This Standard shall be applied by all entities to all types of financial instruments
Investment Property
Objective
The objective of this Standard is to prescribe the accounting treatment for investment property and related
disclosure requirements.
Scope
This Standard shall be applied in the recognition, measurement and disclosure of investment property.

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Agriculture
Objective
TheobjectiveofthisStandardistoprescribetheaccountingtreatmentanddisclosuresrelatedtoagricultural
activity.
Scope
This Standard shall be applied to account for the following when they relate to
agricultural activity:
(a) biological assets;
(b) agricultural produce at the point of harvest; and
(c) government grants covered by paragraphs 34–35.

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1.5 International Financial Reporting Standards
IFRS 1: FIRST TIME APPLICATION OF IFRS
• IFRS-1 requires an entity to comply with each IFRS effective at the reporting date for its first
IFRS financial statements. In particular, the IFRS requires an entity to do the following in the opening
IFRS balance sheet that it prepares as a starting point for its accounting under IFRSs:
• Recognise all assets and liabilities whose recognition is required by IFRSs;
• Do not recognise items as assets or liabilities if IFRSs do not permit such recognition;
• Reclassify items that it recognised under previous GAAP as one type of asset, liability or component
of equity, which are different type of asset, liability or component of equity under IFRSs; and
• Apply IFRSs in measuring all recognised assets and liabilities.
Who is ﬁrst time adopter?
• An entity’s first IFRS financial statements are the first annual financial statements in which the entity
adopts IFRSs, by an explicit and unreserved statement in those financial statements of compliance
with IFRSs.
Opening IFRS Balance Sheet & Comparative Balance Sheet
• An entity has to prepare an opening IFRS Balance Sheet at the date of transition to IFRSs.
• This should be the starting point for its accounting under IFRSs.
• It is not required to present that opening balance sheet in its first IFRS based financial statements.
• However, to comply with IAS -1 “Presentation of Financial Statements” , an entity’s IFRS based
financial statements should include at least one year of comparative information under IASB GAAP
[ Para 36 , IFRS-1].
Example:
Company B proposes to prepare and present IFRS for the calendar year 2011, i.e. Balance Sheet Date
31.12.2011. How should the company carry out transition?
Steps to be taken
• Prepare opening IFRS Balance Sheet as on 1.1.2011 – this is termed as transition date; the beginning of
the earliest period for which an entity presents full comparative information under IFRSs in its first
IFRS financial statements.
• The company has to present comparative information for one year, such comparatives should be as
per IASB GAAP – so it has to restate the accounts of 2010 as per IFRS.
• Prepare and present first IFRS based Financial Statements for 2011 ; it is the first annual financial
statements in which an entity adopts IFRSs by an explicit and unreserved statement.
• Then effectively the company has apply IFRS on and from 1.1.2010.
• Accounting policies: Select its accounting policies based on IFRSs in force at 31st Dec, 2011.

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Paras 7-9 of IFRS- 1 requires adoption of current version of IFRSs which would enhance comparability
because information in a first time adopter’s first financial statements is prepared on a consistent basis
over time and would provide comparative information prepared using latest version of the IFRSs.
Moreover, the entity will get exemptions from applying certain standards as given in Paras 13-34B , 36-
36C and 37 of IFRS-1.
Actions at a Glance
• Recognise all assets and liabilities whose recognition is required by IFRSs
• Do not recognise items as assets or liabilities which IFRSs do not permit
• Reclassify items that it recognised under previous GAAP as one type of asset, liability or component
of equity, but are a different type of asset, liability or component of equity under IFRSs
• Carry out measurement of all assets and liabilities so recognized / re-classified in accordance with
IFRSs
• Change in accounting policies
• Applying exemptions: The first time adopter may elect for exemptions granted in Paragraphs 13-25H
and 36A-36C of IFRS-1.
Prohibition of retrospective application of some aspects of other IFRSs
The first time adopter should follow the prohibition of applying retrospective application relating to:
i. Derecognizing of financial assets and financial liabilities ,
ii. Hedge accounting ,
iii. Estimates, and
iv. Assets classified as held for sale and discontinued operations. [ Paragraphs 26-34B of IFRS-1]
IFRS-2 SHARE BASED PAYMENTS
• IFRS-2 Share Based Payment was issued by the International Accounting Standards Board in February
2004. The Standard has been effective since 2005.
• IFRS 2 requires an entity to recognise share-based payment transactions in its financial statements,
including transactions with employees or other parties to be settled in cash, other assets, or equity
instruments of the entity.
Types of Share Based Transactions
These are of three types –
1. Equity-settled transactions for goods or services acquired by an entity
2 Cash settled but price or value of the goods or services is based on equity instruments of the entity
and.
3. Transactions for goods or services acquired by the entity in which either the entity can settle or
supplier can claim settlement by equity instruments of the entity.

31
Recognition of Share Based Payment
The following are recognition criteria under Paras 7-9 of IFRS-2 :
(i) The goods or services received or acquired in a share-based payment transaction are recognised when
the goods are obtained or as the services are received. The entity shall recognise a corresponding
increase in equity is recognised if the goods or services were received in an equity-settled
transaction.
(ii) The goods or services received or acquired in a share-based payment transaction are recognised when
the goods are obtained or as the services are received. The entity shall recognise a corresponding
increase in liability if the goods or services were acquired in a cash-settled transaction. For example,
in case of employee stock option, it is difficult to assess the fair value of the service rendered, and
therefore, the transaction should be measured at fair value of the equity.
(iii) The goods or services received in a share-based payment transaction may qualify for recognition as
an asset. If they are not so qualified then they are recognised as expense.
For example , inventories ( which forms part of operating activities acquired through a share based
payment, the entity should pass the following journal entries :
Purchases A/c Dr.
To Equity Share Capital A/c ( face value component)
To Securities Premium A/c ( premium component)
Timing of Recognition
• The term ‘service acquired or received has’ has wider connotation in the context of ‘vesting period’
and ‘vesting condition’. If employees are granted share options conditional upon the achievement
of a performance condition as well as length of service , the length of the vesting period would vary
depending on when that performance condition is satisfied and it would available only to the eligible
category of employees .
Example
• An entity plans to grant 100 equity shares per employee of Class-I , 50 equity shares of per employee
of Class –II and 30 equity shares per employee of Class –III if PAT of company exceeds $ 1000 million
on a cumulative basis.
• This benefit will be available only such employees who will continue till the end of the financial year
in which the target performance achieved.
• The entity would estimate the length the vesting period in terms of estimated time required to achieve
the performance, say 3 years , and percentage of employees under different class who will continue
till the end 3rd financial year from the grant date.
Assume the following % of employees will continue:
Class –I : 90% of 100 employees,
Class –II : 80% of 200 employees and
Class –III : 70% of 800 employees.

32
The fair value per equity share as on the grant date is RO. 100.
Then initial value of the share based payment works out to be –
RO. 33,80,000 [ 100 shares × 90% × 100 employees + 50 shares × 80% × 200 employees + 30 shares × 70% ×
800 employees ] × RO.100.
This will be allocated over three years which is the expected vesting period.
• In transaction of equity settled share based payment, if the counterparty is not required to complete
a specified period of service to be eligible to unconditionally entitled to the grant then it is presumed
that the required service has been completed. So the transaction should be recognised in full on the
grant date [ Para 14, IFRS-2].
• There are generally situations in employee stock option that the eligible employees should complete
specified service period.
• In such a case the transaction should be recognised over the vesting period. If the employee is
granted share options conditional upon performance condition ( other than market condition), then
the options vest during the expected fulfilment period .
• Market conditions are adjusted in the fair value of option. [ Para 15, IFRS-2].
IFRS 3: BUSINESS COMBINATIONS
• A Business is integrated set of activities, and assets conducted and managed for the purpose of
providing (a) a return to investors and (b) lower costs or other economic benefits to policyholders or
participants. It is generally consists of inputs, processes, and resulting outputs that are or will be used
to generate revenue. A business can be part of a whole entity / company. But a standalone asset may
or not be a business. Paragraphs B 7-B12 of IFRS 3 explain various identification criteria of business.
• A Business Combination is an act of bringing together of separate entities or businesses into one
reporting unit. The result of business combination is one entity (the acquirer) obtains control of one
or more businesses. If an entity obtains control over other entities which are not businesses, the act is
not a business combination.
Recognition of assets and liabilities
“As of the acquisition date, the acquirer shall recognise, separately from goodwill, the identiﬁable assets
acquired, the liabilities assumed and any non-controlling interest in the acquiree” [ Para 10, IFRS 3].
Check List
• Identify assets and liabilities within the Framework for Preparation and Presentation Financial
Statements and;
• Check the liabilities which do not arise out of business combination ;
• Recognise assets ( like identifiable intangibles ) which were not recognised by the acquiree since
these were internally generated intangibles ;
• Do not recognise any liability which constitute remunerations to the past owners of the acquiree or
its employees for future services or which constitute reimbursement of the acquirer’s acquisition
costs;

33
• Identification of assets or liabilities which are assumed because of pre-existing relationship – the
acquirer takes over the sundry debtors of the acquiree which was due by the acquirer for goods
purchased or services received. The acquirer takes over all assets and liabilities of the acquiree
excluding cash. This example, debtors of the acquiree should excluded from the list of assets acquired
as it was a pre-existing relationship.
• Consider exception of recognition principle for contingent liabilities stated in Paras 22& 23 , IFRS 3;
• Effect of deferred tax [ Paras 24-25, IFRS 3] ;
• Employee benefits [ Para 26, IFRS 3];
• Indemnification assets [ Paras 27-28, IFRS 3];
• Operating lease [ Paras B28-30 , Appendix B, IFRS 3];
• Reaquired Rights [Paras B35-36 , Appendix B, IFRS 3];
• Share based awards [ Para 30, IFRS 3]
• Assets held for sale [ Para 31, IFRS 3]
IFRS 4: INSURANCE CONTRACTS
Objective
The objective of this IFRS is to specify the financial reporting for insurance contracts by any entity that
issues such contracts (described in this IFRS as an insurer) until the Board completes the second phase of
its project on insurance contracts.
In particular, this IFRS requires:
(a) limited improvements to accounting by insurers for insurance contracts.
(b) disclosure that identifies and explains the amounts in an insurer’s financial statements arising from
insurance contracts and helps users of those financial statements understand the amount, timing and
uncertainty of future cash flows from insurance contracts.
Scope
An entity shall apply this IFRS to:
(a) Insurance contracts (including reinsurance contracts) that it issues and reinsurance contracts that it
holds.
(b) Financial instruments that it issues with a discretionary participation feature (see paragraph 35).
IFRS 7 Financial Instruments: Disclosures requires disclosure about financial instruments, including
financial instruments that contain such features.
This IFRS does not address other aspects of accounting by insurers, such as accounting for financial assets
held by insurers and financial liabilities issued by insurers (see IAS 32 Financial Instruments: Presentation,
IAS 39 Financial Instruments: Recognition and Measurement and IFRS 7), except in the transitional
provisions in paragraph 45.

34
An entity shall not apply this IFRS to:
(a) product warranties issued directly by a manufacturer, dealer or retailer (see IAS 18 Revenue and IAS
37 Provisions, Contingent Liabilities and Contingent Assets).
(b) employers’ assets and liabilities under employee benefit plans (see IAS 19 Employee Benefits and IFRS
2 Share-based Payment) and retirement benefit obligations reported by defined benefit retirement
plans (see IAS 26 Accounting and Reporting by Retirement Benefit Plans).
(c) contractual rights or contractual obligations that are contingent on the future use of, or right to use, a
non-financial item (for example, some licence fees, royalties, contingent lease payments and similar
items), as well as a lessee’s residual value guarantee embedded in a finance lease (see IAS 17 Leases,
IAS 18 Revenue and IAS 38 Intangible Assets).
(d) financial guarantee contracts unless the issuer has previously asserted explicitly that it regards such
contracts as insurance contracts and has used accounting applicable to insurance contracts, in which
case the issuer may elect to apply either IAS 39, IAS 32 and IFRS 7 or this Standard to such financial
guarantee contracts. The issuer may make that election contract by contract, but the election for each
contract is irrevocable.
(e) Contingent consideration payable or receivable in a business combination (see IFRS 3 Business
Combinations).
(f) Direct insurance contracts that the entity holds (ie direct insurance contracts in which the entity is the
policyholder). However, a cedant shall apply this IFRS to reinsurance contracts that it holds.
For ease of reference, this IFRS describes any entity that issues an insurance contract as an insurer, whether
or not the issuer is regarded as an insurer for legal or supervisory purposes.
A reinsurance contract is a type of insurance contract. Accordingly, all references in this IFRS to insurance
contracts also apply to reinsurance contracts.
IFRS 5: NON-CURRENT ASSETS HELD FOR SALE AND DISCONTINUED OPERATIONS
Objective
The objective of this IFRS is to specify the accounting for assets held for sale, and the presentation and
disclosure of discontinued operations. In particular, the IFRS requires:
(a) Assets that meet the criteria to be classified as held for sale to be measured at the lower of carrying
amount and fair value less costs to sell, and depreciation on such assets to cease; and
(b) Assets that meet the criteria to be classified as held for sale to be presented separately in the statement
of financial position and the results of discontinued operations to be presented separately in the
statement of comprehensive income.
Disposal group
• It is a group of assets (and directly associated liabilities) which are to be disposed of through a single
transaction.
• The group includes goodwill acquired in business combination if the group is a cash generating unit
to which goodwill has been allocated in accordance with the requirements of Paras 80-87 of IAS-36

35
Impairment of Assets.
• A cash generating unit is the smallest identifiable group of assets that generates cash inflow and that
such cash inflow is largely independent of other assets or group assets of the entity.
Discontinued Operations
A component of entity which is either disposed of or classified as held for sale ; and
• represents a major separate line of business or geographical area of operations or
• is part of single co-ordinated plan to dispose of a major separate line of business or geographical area
of operations, or
• is a subsidiary acquired exclusively with a view to resale.
Classification criteria
• management is committed to a plan to sell
• the asset is available for immediate sale
• an active programme to locate a buyer is initiated
• the sale is highly probable, within one year of classification as held for sale (subject to exceptions
stated in Para 9, IFRS-5)
• the asset is being actively marketed for sale at a sales price reasonable in relation to its fair value
• actions required to complete the plan indicate that it is unlikely that plan will be significantly changed
or withdrawn.
The criteria ‘ sale is highly probable, within one year of classification as held for sale’ needs is not evidenced
when the management is indecisive whether the particular asset will be sold or leased out.
Basic principles
• The basic principle of classifying ‘ non-current assets held for sale and disposal groups’ is that the
carrying value is expected to be realised through a sale transaction rather than through continuing
use.
• Assets should be available for immediate sale in their present conditions subject to only the terms
and conditions which are usual and customary for sales of such assets. Sale must highly probable.
Measurement & Presentation
• Under this standard assets that meet the criteria to be classified as ‘ held for sale’ should be measured
at the lower of carrying amount and fair value less cost to sell , and it will not be required to charge
depreciation on such assets. These assets should separately presented on the face of the balance
sheet. Result of ‘discontinued operations’ should presented separately in the Income Statement.
Classification criteria met after the balance sheet date
• If the classification criteria for an asset or disposal group are met after the balance sheet, the entity
should not classify such asset or disposal group as held for sale.

36
• If these criteria are met after the balance sheet date but before the authorization of financial statements,
information stated Para 41(a) , (b) & (d) of IFRS-5 should disclosed in notes. [ Para 41(a) : description
of non-current assets ; (b) description of the circumstance of sale, expected manner and timing of sale
and (d) reportable segment to which such assets is presented in accordance with IFRS-8].
Nature of disposal Should the transaction be classified as Held for
Sale ?
Sale of 51% of a 100% owned subsidiary, with the
remaining 49% becoming an equity accounted
associate.
Yes, as the group lost the control
Sale of 44% of a 100% subsidiary. The group
continues to control and consolidate the
subsidiary.
No, the group continues to control the same assets
as previously but has sold an economic interest in
those assets
Sale of 75% of a 90% owned subsidiary. The
remaining 15% is accounted for as an AFS.
Yes, since it will be recovered principally through
a sale transaction
Sale of 30% of a 35% interest in an associate. The
remaining interest of 5% is accounted for as an
AFS.
Yes, since it will be recovered principally through
a sale transaction
Sale of 5% of a 35% owned associated. The
remaining interest of 30% continues to be classified
as an associate and equity accounting is followed.
No, since it will not be recovered principally
through a sale transaction
IFRS 6: EXPLORATION FOR AND EVALUATION OF MINERAL ASSETS
The objective of this IFRS is to specify the financial reporting for the exploration for and evaluation of
mineral resources.
In particular, the IFRS requires:
(a) limited improvements to existing accounting practices for exploration and evaluation expenditures.
(b) entities that recognise exploration and evaluation assets to assess such assets for impairment in
accordance with this IFRS and measure any impairment in accordance with IAS 36 Impairment of
Assets.
(c) disclosures that identify and explain the amounts in the entity’s financial statements arising from
the exploration for and evaluation of mineral resources and help users of those financial statements
understand the amount, timing and certainty of future cash flows from any exploration and evaluation
assets recognised.
Scope
An entity shall apply the IFRS to exploration and evaluation expenditures that it incurs.
The IFRS does not address other aspects of accounting by entities engaged in the exploration for and
evaluation of mineral resources.
An entity shall not apply the IFRS to expenditures incurred:

37
(a) before the exploration for and evaluation of mineral resources, such as expenditures incurred before
the entity has obtained the legal rights to explore a specific area.
(b) after the technical feasibility and commercial viability of extracting a mineral resource are
demonstrable.
IFRS 7: FINANCIAL INSTRUMENTS-DISCLOSURES
The objective of this IFRS is to require entities to provide disclosures in their financial statements that
enable users to evaluate:
(a) the significance of financial instruments for the entity’s financial position and performance; and
(b) the nature and extent of risks arising from financial instruments to which the entity is exposed during
the period and at the end of the reporting period, and how the entity manages those risks.
The principles in this IFRS complement the principles for recognising, measuring and presenting
financial assets and financial liabilities in IAS 32 Financial Instruments: Presentation and IAS 39 Financial
Instruments: Recognition and Measurement.
This IFRS shall be applied by all entities to all types of financial instruments, except:
(a) those interests in subsidiaries, associates and joint ventures that are accounted for in accordance with
IAS 27 Consolidated and Separate Financial Statements, IAS 28 Investments in Associates or IAS 31 Interests
in Joint Ventures.
However, in some cases, IAS 27, IAS 28 or IAS 31 permits an entity to account for an interest in a
subsidiary, associate or joint venture using IAS 39; in those cases, entities shall apply the disclosure
requirements in IAS 27, IAS 28 or IAS 31 in addition to those in this IFRS. Entities shall also apply
this IFRS to all derivatives linked to interests in subsidiaries, associates or joint ventures unless the
derivative meets the definition of an equity instrument in IAS 32.
(b) employers’ rights and obligations arising from employee benefit plans, to which IAS 19 Employee
Benefits applies.
(c) [deleted]
(d) insurance contracts as defined in IFRS 4 Insurance Contracts. However, this IFRS applies to derivatives
that are embedded in insurance contracts if IAS 39 requires the entity to account for them separately.
Moreover, an issuer shall apply this IFRS to financial guarantee contracts if the issuer applies IAS 39
in recognising and measuring the contracts, but shall apply IFRS 4 if the issuer elects, in accordance
with paragraph 4(d) of IFRS 4, to apply IFRS 4 in recognising and measuring them.
(e) financial instruments, contracts and obligations under share-based payment transactions to which
IFRS 2 Share-based Payment applies, except that this IFRS applies to contracts within the scope of
paragraphs 5–7 of IAS 39.
This IFRS applies to recognised and unrecognised financial instruments. Recognised financial instruments
include financial assets and financial liabilities that are within the scope of IAS 39. Unrecognised financial
instruments include some financial instruments that, although outside the scope of IAS 39, are within the
scope of this IFRS (such as some loan commitments).

38
This IFRS applies to contracts to buy or sell a non-financial item that are within the scope of IAS 39 (see
paragraphs 5–7 of IAS 39).
IFRS 8: OPERATING SEGMENT
The IFRS specifies how an entity should report information about its operating segments in annual financial
statements and, as a consequential amendment to IAS 34 Interim Financial Reporting, requires an entity
to report selected information about its operating segments in interim financial reports. It also sets out
requirements for related disclosures about products and services, geographical areas and major customers.
The IFRS requires an entity to report financial and descriptive information about its reportable segments.
Reportable segments are operating segments or aggregations of operating segments that meet specified
criteria. Operating segments are components of an entity about which separate financial information is
available that is evaluated regularly by the chief operating decision maker in deciding how to allocate
resources and in assessing performance. Generally, financial information is required to be reported on
the same basis as is used internally for evaluating operating segment performance and deciding how to
allocate re sources to operating segments.
Identification of segments
The requirements of the IFRS are based on the information about the components of the entity that
management uses to make decisions about operating matters.
The IFRS requires identification of operating segments on the basis of internal reports that are regularly
reviewed by the entity’s chief operating decision maker in order to allocate resources to the segment
and assess its performance. IAS 14 required identification of two sets of segments—one based on related
products and services, and the other on geographical areas. IAS 14 regarded one set as primary segments
and the other as secondary segments.
A component of an entity that sells primarily or exclusively to other operating segments of the entity is
included in the IFRS’s definition of an operating segment if the entity is managed that way. IAS 14 limited
reportable segments to those that earn a majority of their revenue from sales to external customers and
therefore did not require the different stages of vertically integrated operations to be identified as separate
segments.

39
1.6 A COMPARISON IGAAP - US GAAP – IFRS
True & Fair View: Under IFRS and IGAAP framework, there is an assumption that adoption of IFRS /
IGAAP leads to a true and fair presentation, there is no such assumption under US GAAP.
Prudence Vs Rules: US GAAP essentially takes the cook book approach to set detailed accounting rules
as compared to IFRS approach of setting a broad accounting principles and guidelines. Accounting
principles in UG on a particular subject is scattered across various pronouncements whereas in IFRS it is
concentrated in one or few accounting standards.
Comparative Position: Under IGAAP and IFRS, comparative financial figures are to be provided for one
previous years, whereas under USGAAP (SEC requirement for listed companies ) comparatives are to be
provided for two previous years except for Balance Sheet.
Over-riding of Standards – IFRS permits that a company may withhold application of IFRS in extremely
rare situation, where it is felt that application of IFRS would defeat the very objective of Financial reporting.
Disclosure must be made for reason for override. No such override is generally permitted under IGAAP
and US GAAP.
Reporting Elements - IFRS prescribes the minimum structure and content of financial statement including
Statement of Changes in equity (in addition to Balance sheet, Income statement, Cash flow statement ,
notes comprising significant accounting Policy and other explanatory notes). Under US GAAP in addition
to statement of changes in Equity, Statement of Comprehensive Income is required.
Both of these statements are NOT required under IGAAP.
FINANCIAL STATEMENTS
Indian GAAP: Balance sheet, Profit and loss account and Cash flows statement* (*only in case of listed
companies). Comparative financial statements of previous period necessary.
US GAAP: Balance sheet, Income statement, Statement of stockholders’ equity and statement of cash
flows. Balance sheet for two years and Income statement, Statement of stockholders’ equity and Cash
flows statement for three years* (*two years for non-listed companies).
IFRS:Balancesheet,Incomestatement,Statementofchangesinequity,cashflowsstatementandaccounting
policies and notes. Comparative information for previous period necessary.
BALANCE SHEET
Basis of
Difference
IFRS USGAAP IGAAP
Format IFRS does not prescribe
any format, but stipulates
minimum line items like
PPE, Investment property,
Intangible assets, Financial
assets, Biological assets,
inventory, receivables, etc.
US GAAP also does not
prescribe any format , but
Rule S-X of SEC stipulates
for listed companies
minimum line items to be
disclosed either on face of
Balance sheet or Notes to
Accounts.
IGAAP provides two
format of Balance Sheet-
Horizontal and Vertical
format ( Part I of schedule
VI to the Companies Act,
1956).

40
Basis of
Difference
IFRS USGAAP IGAAP
Order Under IFRS, lineitems are
presented in increasing
order of liquidity.
Under US GAAP, items
in assets and liabilities are
presented in decreasing
order of liquidity.
In IGAAP, line items are
presented in increasing
order of liquidity.
Consolidation Consolidation of Financial
statements of subsidiaries
is not compulsory until it is
required under some other
law or regulation
Under US GAAP
consolidation of results of
Subsidiaries and Variable
interest entity (FIN 46R) is
compulsory
It is not mandatory for
companies to prepare CFS
under AS 21. However,
listed enterprises are
mandatorily required by
listing agreement of SEBI
to prepare and present
CFS.
Current/Non-
Current
An organisation has an
option to adopt Current or
Non current classification
of assets and liabilities
Bifurcation into current
& non-current items is
cumpulsorily required.
No such requirement
Income Statement
Basis of
Difference
IFRS USGAAP IGAAP
Format IFRS does not prescribe any
standard format for income
statement but prescribes
minimum disclosure
includes revenue, finance
costs, share of post tax
results of JV and associates
using equity method.
There is no prescribed
format,SECguidelinesRule
S-Xprescribeminimumline
items to be shown on the
face of income statement&
suggest 2 alternatives
a) a single step format
where expenses are
classified by function
and
b) a Multiple step format
where Cost of sales is
deducted from sales
Under Indian GAAP no
format is prescribed , but
minimum line items have
been specified in Part II of
schedule VI to Companies
Act, 1956 including
Aggregate Turnover,
Gross Service revenue for
Commission paid to Sole
selling agent, Brokerage
and discount on sales etc.
Prior Period
Items
A prior period item/
error should be corrected
by retrospective effect by
restatement of opening
balance of assets, liabilities
or equities
Mandates retrospective
application of error and
requires restatement of
comparative opening
balance with suitable
footnote disclosure.
Requires separate disclosure
ofpriorperiodinthecurrent
financial statement & no
restatement of retained
earnings are required.

41
Basis of
Difference
IFRS USGAAP IGAAP
Discounting IFRS provides that
where the inflow of
cash is significantly
deferred without interest,
discounting is needed.
US GAAP also permits
discounting in certain cases
for instance discounting
is done in case of loans,
debentures, bonds and
upfront fees
There is no concept of
discounting under IGAAP.
Change in
accounting
policy
IFRS requires retroactive
application for the earliest
period practical and
adjustment of opening
retained earning.
Requires prospective
application of change in
accounting policy and
proforma disclosure of
effect on income before
extraordinary items on the
face of income statement as
separate section. Only in
specific case retrospective
is applicable
Under IGAAP, effect for
change in accounting
policy is given with
prospective effect , if the
same is material.
Bifurcation of
Cost
There is no specific
provision in this regard
Total cost is required to be
shown separately under:
a) Cost of Sales
b) S e l l i n g a n d
Administration
c) R & D
There is no specific
provision in this regard.
There are certain disclosure
requirements under varied
AS which should be
complied.
Extra ordinary
Events
Disclosure is prohibited Nature should be both:
a) Infrequent
b) Unusual
Disclosed separately on the
face of Income Statement
net of Taxes after results
from operations
Distinct from the ordinary
activities of the enterprise
and, therefore, are not
expectedtorecurfrequently
or regularly. The nature
and the amount of each
extraordinary item should
be separately disclosed in
the statement of P & L in a
manner that its impact on
current profit or loss can be
perceived.

42
CASH FLOW STATEMENT
Basis of
Difference
IFRS USGAAP IGAAP
Exemptions No exemptions Limited exemptions for
certain investment entities
Unlisted enterprises,
enterprises with a turnover
less than Rs.500 million
and those with borrowings
less than Rs.100 million
Direct/Indirect
Method
Both allowed Both allowed Both allowed. Listed
companies- Indirect
method Insurance
companies- Direct Method
Periods to be
presented
2 years 3 years 2 years
Interest paid Operating and financing
activity
Operating activity (to
be disclosed by way of a
note)
Financing. In case of
a financial enterprise,
operating activities
Interest received Operating or investing
activity
Operating activity Investing. In the case of
operating activity.
Dividends paid Operating or financing Financing Financing
Tax payments Operating Operating(to be disclosed
by way of a note)
Operating
Dividends
received
Operating or investing Operating Investing. In the case of
operating activity.
SHAREHOLDERS’ EQUITY
Repurchase of own shares:
IGAAP
Entity may purchase its own shares provided it is in consonance with the complex legal requirements
stipulated in the Companies Act and SEBI guidelines.
The excess of cost over par value may be adjusted against free reserves and securities premium.
Also, such shares are required to be cancelled, i.e. cannot be kept in treasury.
US GAAP
Repurchased for retiring stock, excess of cost over par value may be Charged entirely to retained earnings;
or allocated between retained earnings and additional paid-in-capital (APIC); or charged entirely to
APIC.

43
When stock repurchased for purposes other than retiring stock, the cost of acquired stock may be shown
separately as a deduction from equity; or treated the same as retired stock.
IFRS
Similar to US GAAP. Repurchased stock is shown as a deduction from equity.
Statement of Changes in Shareholders’ Equity
Common
Stock
Additional
Paid in
Capital
Retained
Earnings
Treasury
Stock(i.e.
Buy Back)
Cumulative
Translation
adjustment
Accumulated
other
comprehensive
income
Total
Balance at the
beginning of
the year
Net income
Other
comprehensive
income
Dividend paid
Cumulative
translation
adjustment
Stock options
Balance as at
the end of
the year
Statement of changes in shareholders equity:
Indian GAAP – 2 years
Not Applicable. Share capital and reserves are disclosed by way of a schedule.
IFRS – 2 years
Primary statement Shows capital transactions with owners, movement in accumulated profits and
reconciliation of equity. Other Comprehensive Income may be shown as a part of it.
US GAAP – 3 years
May be shown as a part of notes to accounts shows capital transactions with owners, movement in
accumulated profits and reconciliation of equity.Other Comprehensive Income may be shown as a part
of it.
Dividend on equity shares
IGAAP
Presented as a appropriation of profits.
Dividends are accounted in the year when Proposed.

44
US GAAP
Presented as a deduction in the statement of changes in shareholders’ equity Cash Dividends are accounted
in the year when Declared. Only in case of Stock dividend adjustments is done in accounts..
IFRS
Presented as a deduction in the statement of changes in shareholders’ equity dividends are accounted in
the year when Declared.
INVESTMENTS
IGAAP : AS 13
Investments are assets held by an enterprise for earning income by way of dividends, interest, and rentals,
for capital appreciation, or for other benefits to the investing enterprise. Assets held as stock-in-trade are
not ‘investments’.
(A) Current Investments – Lower of Cost or Fair Value
(B) Long term Investments. – At cost. If Permanent decline then reduce the carrying value to declined
FMV.
All changes in carrying value is taken to P&L
Reclassification – Long term to Current – at lower of cost and carrying amount.
Reclassification – Current to Long term – at lower of cost and Fair Value.
INVESTMENTS: US GAAP
(A) Held to Maturity – At Cost. (with discount or premium amortized over the effective yield basis).
Most Restrictive category. securities can be so classified if there is positive intent and ability to hold
(maintain the securities) till maturity.
(B) Available for Sale. – At FMV. Unrealized gain / loss due to Fair value are accounted under OCI. In
case of Permanent decline, the reduction is taken to income statement.
(C) Trading Securities – AT FMV. Unrealized gains and losses are entirely taken to Income Statement.
Investment in unlisted securities is valued at cost .There are very stringent limitations on reclassification of
Investments.
IF “HTM” securities are sold, use of this category is prohibited Provision for diminution (in value of the long-
term investment) created in earlier years cannot be reversed, whereas in Indian GAAP it can be reversed.
INVESTMENTS: IFRS
(A) Held to Maturity – At Cost. (with discount or premium amortized over the effective yield basis).
Most Restrictive category. securities can be so classified if there is positive intent and ability to hold

45
(maintain the securities) till maturity.
(B) Available for Sale. – At FMV. Unrealized gain / loss due to Fair value are accounted under OCI. In
case of Permanent decline, the reduction is taken to income statement.
(C) Trading Securities – AT FMV. Unrealized gains and losses are entirely taken to Income Statement.
Investment in unlisted securities can be valued at FMV.
There are very stringent limitations on reclassification of Investments.
IF “HTM” securities are sold, use of this category is prohibited for next two years.
CONSOLIDATION - SUBSIDIARIES
Indian GAAP
Based on controlling interest, control directly or indirectly through subsidiary (ies), by the virtue of holding
the majority of voting shares or control over the board of directors.
IFRS
Based on voting control or power to govern.
The existence of currently exercisable potential voting rights is also taken into consideration. SPEs also need
to be consolidated.
US GAAP
Controlling interest through majority ownership of voting shares or by contract.
Consolidate variable interest entities (VIEs) in which a parent does not have voting control but absorbs
the majority of losses or returns.
CONSOLIDATION : VARIABLE INTEREST ENTITIES(VIE)
US GAAP – FIN 46(R)
VIE is an entity which satisﬁes any of the following conditions:
• The equity investment at risk is not sufficient to permit that entity to finance its activities without
additional subordinated financial support.
• Equity investors lack either (a) voting control, or (b) an obligation to absorb expected losses, or (c)
the right to receive expected residual returns.
• Equity investors have voting rights that are not proportionate to their economic interest, and activities
of the entity involve or are conducted on behalf of an investor with disproportionately small voting
interest.
A VIE is a thinly capitalized and is not self supportive entity.
The primary beneﬁciary (i.e one absorbing more than half of expected losses or receiving more than half
of expected residual returns) needs to consolidate the VIE.

46
Exclusions from Consolidation – Subsidiaries – IFRS
Under IFRS, a parent may avoid consolidation if the parent is a wholly owned subsidiary or a partially
owned subsidiary of another entity and its other owners, including those not entitled to vote, have been
informed about and do not object to the parent not preparing consolidated financial statements the parent
is neither listed nor it is in the process of listing the ultimate or any intermediate parent of the parent
produces IFRS compliant consolidated financial statements.
Recent Changes
Temporary control (unless the intended period of holding is less than12 months) is not a justification for
non consolidation.
Severe long term restrictions to transfer funds to the parent are not a justification for non-consolidation.
IMPAIRMENT OF ASSETS
Difference Criterion IFRS and IGAAP US GAAP
Timing of impairment review Annually Whenever events or changes in
circumstances indicate that the
carrying amount may not be
recovered
Asset is impaired if Recoverable amount < Carrying
amount
Fair value < Carrying amount
Recoverable amount/Fair Value Recoverable amount is higher of
Net Selling Price
Value in use
Fair Value is the amount at
which an asset or liability could
be bought or settled in a current
transaction between willing
parties
Cash flows for calculating value
in use/fair value
Use discounted cash flows for
calculating the value in use
Use discounted cash flows for
calculating the fair value
Reversal of impairment loss Whenever there is a change in
the economic conditions
Prohibited
BUSINESS COMBINATION
Indian GAAP:
If the combination satisfies the specified conditions, it is an amalgamation in the form of a merger (Pooling
of Interest Method), else an amalgamation in the nature or purchase.
Pooling of Interest Method and Purchase Method allowed
US GAAP:
Acquisition of net assets that constitute a business or controlling equity interests of entities.
Prohibits Pooling of Interest.

47
IFRS:
Bringing together of separate entities or operations into one reporting entity.
Prohibits Pooling of Interest.
Issues IFRS USGAAP IGAAP
Date of acquisition When control is
transferred
When assets received or
equity issued
Date speciﬁed by the
court or the purchase
agreement
Valuation of assets and
liabilities
Fair value Fair value In pooling of interests
method-book value
In purchase method-
book value or fair value
Treatment of goodwill Capitalize and test for
impairment
Capitalize and test for
impairment
Estimate the useful
life and amortize
accordingly
Negative goodwill Recognized in the
income statement
Reduce fair value of
non-monetary assets
Disclose as capital
reserve
Reverse acquisition Acquisition accounting
is based on substance.
Accordingly legal
acquirer is treated as
acquiree and legal
acquiree is treated as
acquirer
Similar to IFRS Acquisition accounting
is based on form.
Legal Acquirer is treated
as acquirer and legal
acquiree is treated as
acquiree for legal as well
as accounting purpose.
INTERNALLY GENERATED INTANGIBLE ASSETS
Issues IFRS USGAAP IGAAP
Research Cost Charge off Charge off Charge off
Development Cost Capitalize if criterion is
met
Charge off Capitalize if criterion is
met

Preparation
of Company
Accounts
under Various
Circumstances
STUDY NOTE - 2
• Merger and Acquisitions
• Accounting for Merger and Acquisitions
• External Reconstruction

Preparation of Company Accounts under Various Circumstances
50
2.1 Merger and Acquisitions
2.1.1 Introduction
In today’s global business environment, companies may have to grow to survive, and one of the best ways
to grow is by merging with another company or acquiring other companies. A merger occurs when one
firm assumes all the assets and all the liabilities of another. The acquiring firm retains its identity, while
the acquired firm ceases to exist.
The United Kingdom Financial Reporting Standard 6 defines the term ‘merger’ as: “Merger is a business
combination which results in the creation of a new reporting entity formed from the combining parties,
in which the shareholders come together in a substantially equal partnership for the mutual sharing of
risks and benefits of the combined entity; and in which no party to the combination, in substance, obtains
control over any other.”
A majority vote of shareholders is generally required to approve a merger. A merger is just one type of
acquisition. One company can acquire another in several other ways, including purchasing some or all of
the company’s assets or buying up its outstanding shares of stock.
In general, mergers and other types of acquisitions are performed in the hopes of realizing an economic
gain. For such a transaction to be justified, the two firms involved must be worth more together than they
were apart. Some of the potential advantages of mergers and acquisitions include achieving economies
of scale, combining complementary resources, garnering tax advantages, and eliminating inefficiencies.
Other reasons for considering growth through acquisitions include obtaining proprietary rights to
products or services, increasing market power by purchasing competitors, shoring up weaknesses in key
business areas, penetrating new geographic regions, or providing managers with new opportunities for
career growth and advancement. Since mergers and acquisitions are so complex, however, it can be very
difficult to evaluate the transaction, define the associated costs and benefits, and handle the resulting tax
and legal issues.
2.1.2 What is Merger?
Merger or amalgamation contemplates joining two or more companies to form a new company, an
altogether a new entity or absorbing of one or more companies by an existing company. The term ˜merger”
and “amalgamation” are used synonymously.
Co. A + Co. B – New Co. C
Figure 1
Co. A and Co. B = Transferor/Amalgamating Company
New Co. C = Transferee/Amalgamated Company
Co. A + Co. B + Co.C – Existing Co.As
Figure 2
Co. B and Co. C = Transferor/Amalgamating Company
Co. A = Transferee/Amalgamated Company
In other words, merger involves consolidation of business of Company A and Company B into a
new Company C on a going concern basis as shown in Figure 1 above or transfer of business of

51
Company B and Company C to Company A on a going concern basis as shown in Figure 2 above.
The transaction involves arrangement with the shareholdeRs.
The consideration for transfer of business may be discharged either through issue of shares (equity or
preference) or other instruments of the transferee company or by cash.
2.1.3 Varieties of Mergers
From the perspective of business structures, there are a whole host of different mergeRs. Here are a few
types, distinguished by the relationship between the two companies that are merging:
• Horizontal merger Two companies that are in direct competition in the same product lines and
markets.
• Vertical merger A customer and company or a supplier and company. Think of a cone supplier
to an ice cream maker.
• Market-extension merger: Two companies that sell the same products in different markets.
• Product-extension merger: Two companies selling different but related products in the same
market.
• Conglomeration: Two companies that have no common business areas.
From the perspective of how the merge is financed, there are two types of mergers: purchase
mergers and consolidation mergeRs. Each has certain implications for the companies involved
and for investors:
o Purchase Mergers - As the name suggests, this kind of merger occurs when one company
purchases another one. The purchase is made by cash or through the issue of some kind of
debt instrument, and the sale is taxable.
Acquiring companies often prefer this type of merger because it can provide them with
a tax beneﬁt. Acquired assets can be ‘‘written-up’’ to the actual purchase price, and the
difference between book value and purchase price of the assets can depreciate annually,
reducing taxes payable by the acquiring company (we discuss this further in part four of
this tutorial).
o Consolidation Mergers - With this merger, a brand new company is formed and both
companies are bought and combined under the new entity. The tax terms are the same as
those of a purchase merger.
2.1.4 Acquisitions
As you can see, an acquisition may be only slightly different from a merger. In fact, it may be different
in name only. Like mergers, acquisitions are actions through which companies seek economies of
scale, efficiencies, and enhanced market visibility. Unlike all mergers, all acquisitions involve one firm
purchasing another – there is no exchanging of stock or consolidating as a new company. Acquisitions are
often congenial, with all parties feeling satisfied with the deal. Other times, acquisitions are more hostile.
In an acquisition, as in some of the merger deals we discussed above, a company can buy another
company with cash, with stock, or a combination of the two. Another possibility, which is common

52
in smaller deals, is for one company to acquire all the assets of another company. Company X buys
all of Company Y’s assets for cash, which means that Company Y will have only cash (and debt, if
they had debt before). Of course, Company Y becomes merely a shell and will eventually liquidate
or enter another area of business.
Another type of acquisition is a reverse merger, a deal that enables a private company to get publicly-
listed in a relatively short time period. A reverse merger occurs when a private company that has
strong prospects and is eager to raise financing buys a publicly-listed shell company, usually one
with no business and limited assets. The private company reverse merges into the public company,
and together they become an entirely new public corporation with tradable shares.
Regardless of their category or structure, all mergers and acquisitions have one common goal: they
are all meant to create synergy that makes the value of the combined companies greater than the
sum of the two parts. The success of a merger or acquisition depends on how well this synergy is
achieved.
2.1.5 Types of Acquisitions
In general, acquisitions can be horizontal, vertical, or conglomerate. A horizontal acquisition takes place
between two firms in the same line of business. For example, one tool and die company might purchase
another. In contrast, a vertical merger entails expanding forward or backward in the chain of distribution,
toward the source of raw materials or toward the ultimate consumer. For example, an auto parts
manufacturer might purchase a retail auto parts store. A conglomerate is formed through the combination
of unrelated businesses.
Another type of combination of two companies is a consolidation. In a consolidation, an entirely new firm
is created, and the two previous entities cease to exist. Consolidated financial statements are prepared
under the assumption that two or more corporate entities are in actuality only one. The consolidated
statements are prepared by combining the account balances of the individual firms after certain adjusting
and eliminating entries are made.
Another way to acquire a firm is to buy the voting stock. This can be done by agreement of management or
by tender offer. In a tender offer, the acquiring firm makes the offer to buy stock directly to the shareholders,
thereby bypassing management. In contrast to a merger, a stock acquisition requires no stockholder
voting. Shareholders wishing to keep their stock can simply do so. Also, a minority of shareholders may
hold out in a tender offer.
A bidding firm can also buy another simply by purchasing all its assets. This involves a costly legal
transfer of title and must be approved by the shareholders of the selling firm. A takeover is the transfer of
control from one group to another. Normally, the acquiring firm (the bidder) makes an offer for the target
firm. In a proxy contest, a group of dissident shareholders will seek to obtain enough votes to gain control
of the board of directoRs.
Distinction Between Mergers and Acquisitions
Although they are often uttered in the same breath and used as though they were synonymous, the terms
‘‘merger’’ and “acquisition” mean slightly different things.
When a company takes over another one and clearly becomes the new owner, the purchase is called an
acquisition. From a legal point of view, the target company ceases to exist and the buyer “swallows” the
business, and stock of the buyer continues to be traded.

53
In the pure sense of the term, a merger happens when two firms, often about the same size, agree to go
forward as a new single company rather than remain separately owned and operated. This kind of action
is more precisely referred to as a “merger of equals.” Both companies’ stocks are surrendered, and new
company stock is issued in its place. For example, both Daimler-Benz and Chrysler ceased to exist when
the two firms merged, and a new company, DaimlerChrysler, was created.
In practice, however, actual mergers of equals don’t happen very often. Often, one company will buy
anotherand,aspartofthedeal’sterms,simplyallowtheacquiredfirmtoproclaimthattheactionisamerger
of equals, even if it’s technically an acquisition. Being bought out often carries negative connotations. By
using the term “merger,” dealmakers and top managers try to make the takeover more palatable.
A purchase deal will also be called a merger when both CEOs agree that joining together in business is
in the best interests of both their companies. But when the deal is unfriendly–that is, when the target
company does not want to be purchased–it is always regarded as an acquisition.
So, whether a purchase is considered a merger or an acquisition really depends on whether the purchase
is friendly or hostile and how it is announced. In other words, the real difference lies in how the
purchase is communicated to and received by the target company’s board of directors, employees and
shareholdeRs.
Synergy is the magic force that allows for enhanced cost efficiencies of the new business. Synergy takes
the form of revenue enhancement and cost savings. By merging, the companies hope to benefit from the
following:
• Staff reductions – As every employee knows, mergers tend to mean job losses. Consider all the
money saved from reducing the number of staff members from accounting, marketing and other
departments. Job cuts will also include the former CEO, who typically leaves with a compensation
package.
• Economies of scale yes, size matters. Whether it’s purchasing stationery or a new corporate IT system,
a bigger company placing the orders can save more on costs. Mergers also translate into improved
purchasing power to buy equipment or office supplies – when placing larger orders, companies have
a greater ability to negotiate price with their supplieRs.
• Acquiring new technology – To stay competitive, companies need to stay on top of technological
developmentsandtheirbusinessapplications.Bybuyingasmallercompanywithuniquetechnologies,
a large company can keep or develop a competitive edge.
• Improved market reach and industry visibility – Companies buy companies to reach new markets
and grow revenues and earnings. A merge may expand two companies' marketing and distribution,
giving them new sales opportunities. A merger can also improve a company's standing in the
investment community: bigger firms often have an easier time raising capital than smaller ones.
That said, achieving synergy is easier said than done – it is not automatically realized once two companies
merge. Sure, there ought to be economies of scale when two businesses are combined, but sometimes it
works in reverse. In many cases, one and one add up to less than two.

54
Sadly, synergy opportunities may exist only in the minds of the corporate leaders and the dealmake Rs.
Where there is no value to be created, the CEO and investment bankers – who have much to gain from a
successful M&A deal – will try to build up the image of enhanced value. The market, however, eventually
sees through this and penalizes the company by assigning it a discounted share price. We talk more about
why M&A may fail in a later section of this tutorial.
Conclusion & Resources
One size does not fit all. Many companies find that the best route forward is expanding ownership
boundaries through mergers and acquisitions. For others, separating the public ownership of a subsidiary
or business segment offers more advantages. At least in theory, mergers create synergies and economies
of scale, expanding operations and cutting costs. Investors can take comfort in the idea that a merger will
deliver enhanced market power.
By contrast, de-merged companies often enjoy improved operating performance thanks to redesigned
managementincentives.Additionalcapitalcanfundgrowthorganicallyorthroughacquisition.Meanwhile,
investors benefit from the improved information flow from de-merged companies.
M&A comes in all shapes and sizes, and investors need to consider the complex issues involved in
M&A. The most beneficial form of equity structure involves a complete analysis of the costs and benefits
associated with the deals.
2.2 Accounting For Mergers And Acquisitions
The two principal accounting methods used in mergers and acquisitions are the pooling of interests
method and the purchase method. The main difference between them is the value that the combined
firm’s balance sheet places on the assets of the acquired firm, as well as the depreciation allowances and
charges against income following the merger.
The pooling of interests method assumes that the transaction is simply an exchange of equity securities.
Therefore, the capital stock account of the target firm is eliminated, and the acquirer issues new stock
to replace it. The two firms’ assets and liabilities are combined at their historical book values as of the
acquisition date. The end result of a pooling of interests transaction is that the total assets of the combined
firm are equal to the sum of the assets of the individual firms. No goodwill is generated, and there are no
charges against earnings. A tax-free acquisition would normally be reported as a pooling of interests.
Under the purchase method, assets and liabilities are shown on the merged firm’s books at their market
(not book) values as of the acquisition date. This method is based on the idea that the resulting values
should reflect the market values established during the bargaining process. The total liabilities of the
combined firm equal the sum of the two firms’ individual liabilities. The equity of the acquiring firm is
increased by the amount of the purchase price.
Accounting for the excess of cost over the aggregate of the fair market values of the identifiable net assets
acquired applies only in purchase accounting. The excess is called goodwill, an asset which is charged
against income and amortized over a period that cannot exceed 40 yeaRs. Although the amortization
“expense” is deducted from reported income, it cannot be deducted for tax purposes.
Purchase accounting usually results in increased depreciation charges because the book value of most
assets is usually less than fair value because of inflation. For tax purposes, however, depreciation does not

55
increase because the tax basis of the assets remains the same. Since depreciation under pooling accounting
is based on the old book values of the assets, accounting income is usually higher under the pooling
method. The accounting treatment has no cash flow consequences. Thus, value should be unaffected by
accounting procedure. However, some firms may dislike the purchase method because of the goodwill
created. The reason for this is that goodwill is amortized over a period of yeaRs.
Accounting Standard (AS-14) as prescribed by the Institute of Chartered Accountants of India deals
with accounting for amalgamation and treatment for resulting goodwill or reserves. AS-14 classifies
amalgamation into two types, viz.:
Amalgamation in nature of merger; and
Amalgamation in nature of purchase.
Amalgamation in nature of merger is an amalgamation, which satisfies all the following conditions:
i. All the assets and liabilities of the transferor company become the assets and liabilities of the transferee
company;
ii. Shareholders holding not less than 90% of the face value of the equity shares of the transferor company
(other than transferee company and its nominees) become equity shareholders of the transferee
company after amalgamation;
iii. The consideration is to be discharged by way of issue of equity shares in the transferee company to
the shareholders of the transferor company on the amalgamation;
iv. The business of the transferor company is to be carried on by the transferee company;
v. No adjustments are intended to be made to the book values of the assets and liabilities of the transferor
company.
If any one or more of the aforesaid conditions are not satisfied then the amalgamation is in nature of
purchase.
Amalgamation in the nature of merger is to be accounted as per the Pooling of Interest Method and
in case of amalgamation in the nature of purchase accounting needs to be done as per the Purchase
Method.
2.2.1 Under the Pooling of Interest Method:
i. The assets, liabilities and reserves of the transferor company are to be recorded at their existing
carrying amounts and in the same form as it was appearing in the books of the transferor
company.
ii. The identity of the reserves of the transferor company is to be kept intact in the balance sheet of
the transferee company.
iii. Difference between the amounts of share capital issued plus any other additional consideration
paid by the transferee company and the amount of the share capital of the transferor company
should be adjusted in Reserves.

56
Under Purchase Method:
i. The assets and the liabilities of the transferor company are to be recorded at their existing carrying
amounts or, alternatively, the consideration should be allocated to individual assets and liabilities on
the basis of fair values at the date of amalgamation while preparing the financial statements of the
transferee company.
ii. The identity of the reserves of the transferor company other than the statutory reserves is not
preserved. The identity of the statutory reserves is preserved in the same form and is recorded in the
books of the transferee company by a corresponding debit to the amalgamation adjustment a/c.
iii. Excess or shortfall of consideration over the value of net assets acquired should be credited/ debited
as capital reserve/goodwill, as the case may be.
iv. It is appropriate to amortize goodwill over a period of not exceeding 5 years unless a longer period
is justified.
The accounting treatment as specified in AS-14 needs to be followed for accounting of reserves. In case
the scheme of amalgamation sanctioned prescribes a separate treatment to be given to the reserves of the
transferor company on amalgamation, it can be followed.
However the Institute of Chartered Accountants of India has issued a general clarification wherein the
following disclosure is to be made in case the accounting treatment for reserves is different from that
specified in AS-14:
i. Description of the accounting treatment given to reserves;
ii. Deviation in the Accounting Treatment and the reasons for following a treatment different from that
prescribed in the AS-14;
iii. The financial effect, if any, arising due to such deviation is to be disclosed.
iv. Other Disclosure Requirements
a. General
• Names and general nature of business of the amalgamating companies
• Effective date of amalgamation for accounting purposes
• Method of accounting used to reflect the amalgamation and Exchange Ratio
• Particulars of the scheme sanctioned by the Court
b. If Pooling of Interest Method is used
• Description and number of shares issued, together with the percentage of each company’s
equity shares exchanged.
• The amount of any difference between the consideration and the value of net identifiable
assets acquired and the treatment thereof.
c. If Purchase Method is used
• Consideration for the amalgamation and description of consideration paid/payable
• The amount of difference between the consideration and the value of net identifiable assets

57
acquired and the treatment thereof including the period of amortization of any goodwill
arising on amalgamation
ENTRIES IN BOOKS OF VENDOR COMPANY
1. Transfer to Realisation A/c.
Particulars Debit Credit
Rs. Rs.
a. Assets taken over by purchasing Company at Book values.
Realisation A/c Dr. XXX
To Liquidator of A Ltd. A/c XXX
b. Liabilities taken over by Purchasing Company
at Balance Sheet value.
Liabilities A/c Dr XXX
To Realisation A/c XXX
2. Purchase Consideration
Purchase consideration represents consideration paid by transferee company to shareholders (equity and
preference) in any form viz., cash, shares, debentures etc.
Rs. Rs.
a. Due Entry for consideration
Transfer company A/c Dr. XXX
To Realisation A/c XXX
b. Receipt of Considertion
Shares/Securities of transferee company A/c Dr. XXX
Bank A/c Dr. XXX
To Transferee company A/c XXX
3. Sale of Assets not taken over (Assuming Profits)
Rs. Rs.
Bank A/c (Sale proceeds) Dr. XXX
To Assets A/c (Book value) XXX
To Realisation A/c (Proﬁts) XXX

58
4. Settlement of liabilities not taken over (Assuming at a discount)
Rs. Rs.
Liabilities A/c (book value) Dr. XXX
To Bank A/c XXX
To Realisation A/c (discount) XXX
5. Realisation expenses
Rs. Rs.
a. Incurred by transferor company
Realisation A/c Dr. XXX
To Bank A/c XXX
b. Incurred by transferee company
No Entry
c. Incurred by transferor company reimbursed by
transferee company
i. On incurring the expenses
Transferee company A/c Dr. XXX
To Bank XXX
ii. On reimbursement
Bank A/c Dr. XXX
To Transferee company A/c XXX
6. Amount due to the euqity Share holders
Rs. Rs.
a. Transfer of share capital and reserves to
shareholders account
Equity Share Capital A/c Dr. XXX
Reserves A/c Dr. XXX
To Shareholders A/c XXX
7. Settlement to Share holders by transfer of consideration received:
Rs. Rs.
Shareholders A/c Dr. XXX
To Shares/Securities of transferee company A/c XXX
To Bank A/c XXX

59
Entries in books of Transferee Company
a) Three basic entries
For purchase consideration due
Business Purchase a/c
To Liquidator of Vendor Company
Dr.
For assets and liabilities taken over
Sundry Assets A/c
Goodwill A/c
To Sundry Liabilities
To Business Purchase A/c
To Capital Reserve A/c (Bal. ﬁg.)
Dr.
Dr. (Bal. ﬁg.)
For discharge of purchase consideration
Liquidator of Vendor Company A/c
To Equity Share Capital A/c
To Securities Premium A/c
To Debentures A/c
To Preference Share Capital A/c
To Cash A/c
Dr.
b) For liquidation expenses paid by purchasing company
Goodwill/Capital Reserve A/c Dr.
To Cash A/c
c) For cancellation of mutual owings
Creditor/Bills payable A/c Dr.
To Debtors/Bills receivable A/c
d) For adjustment of unrealised profit
Goodwill/Capital reserve A/c Dr.
To Stock A/c

60
e) For carry forward of statutory reserves
Amalgamation Adjustment A/c Dr.
To Statutory Reserve A/c
f) If both capital reserve and goodwill appears in books
Capital Reserve A/c Dr.
To Goodwill A/c
2.2.2 How To Value An Acquisition
Valuing an acquisition is similar to valuing any investment. The analyst estimates the incremental cash
flows, determines an appropriate risk-adjusted discount rate, and then computes the net present value
(NPV). If firm A is acquiring firm B, for example, then the acquisition makes economic sense if the value of
the combined firm is greater than the value of firm A plus the value of firm B. Synergy is said to exist when
the cash flow of the combined firm is greater than the sum of the cash flows for the two firms as separate
companies. The gain from the merger is the present value of this difference in cash flows.
2.2.3 Sources of Gains From Acquisitions
The gains from an acquisition may result from one or more of the following five categories: (1) revenue
enhancement, (2) cost reductions, (3) lower taxes, (4) changing capital requirements, or (5) a lower cost of
capital. Increased revenues may come from marketing gains, strategic benefits, and market power. Marketing
gains arise from more effective advertising, economies of distribution, and a better mix of products. Strategic
benefits represent opportunities to enter new lines of business. Finally, a merger may reduce competition,
thereby increasing market power. Such mergers, of course, may run afoul of antitrust legislation.
A larger firm may be able to operate more efficiently than two smaller firms, thereby reducing costs.
Horizontal mergers may generate economies of scale. This means that the average production cost
will fall as production volume increases. A vertical merger may allow a firm to decrease costs by more
closely coordinating production and distribution. Finally, economies may be achieved when firms have
complementary resources — for example, when one firm has excess production capacity and another has
insufficient capacity.
Tax gains in mergers may arise because of unused tax losses, unused debt capacity, surplus funds, and
the write-up of depreciable assets. The tax losses of target corporations can be used to offset the acquiring
corporation’s future income. These tax losses can be used to offset income for a maximum of 15 years or until
the tax loss is exhausted. Only tax losses for the previous three years can be used to offset future income.
Tax loss carry-forwards can motivate mergers and acquisitions. A company that has earned profits may
find value in the tax losses of a target corporation that can be used to offset the income it plans to earn. A
merger may not, however, be structured solely for tax purposes. In addition, the acquirer must continue
to operate the pre-acquisition business of the company in a net loss position. The tax benefits may be less
than their “face value,” not only because of the time value of money, but also because the tax loss carry-
forwards might expire without being fully utilized.

61
Tax advantages can also arise in an acquisition when a target firm carries assets on its books with basis,
for tax purposes, below their market value. These assets could be more valuable, for tax purposes, if they
were owned by another corporation that could increase their tax basis following the acquisition. The
acquirer would then depreciate the assets based on the higher market values, in turn, gaining additional
depreciation benefits.
Interest payments on debt are a tax-deductible expense, whereas dividend payments from equity
ownership are not. The existence of a tax advantage for debt is an incentive to have greater use of debt,
as opposed to equity, as the means of financing merger and acquisition transactions. Also, a firm that
borrows much less than it could may be an acquisition target because of its unused debt capacity. While
the use of financial leverage produces tax benefits, debt also increases the likelihood of financial distress
in the event that the acquiring firm cannot meet its interest payments on the acquisition debt.
Finally, a firm with surplus funds may wish to acquire another firm. The reason is that distributing the
money as a dividend or using it to repurchase shares will increase income taxes for shareholdeRs. With
an acquisition, no income taxes are paid by shareholdeRs.
Acquiring firms may be able to more efficiently utilize working capital and fixed assets in the target firm,
thereby reducing capital requirements and enhancing profitability. This is particularly true if the target
firm has redundant assets that may be divested.
The cost of debt can often be reduced when two firms merge. The combined firm will generally have
reduced variability in its cash flows. Therefore, there may be circumstances under which one or the other
of the firms would have defaulted on its debt, but the combined firm will not. This makes the debt safer,
and the cost of borrowing may decline as a result. This is termed the coinsurance effect.
Diversification is often cited as a benefit in mergeRs. Diversification by itself, however, does not create
any value because stockholders can accomplish the same thing as the merger by buying stock in both
firms.
2.2.4 Valuation Procedures
The procedure for valuing an acquisition candidate depends on the source of the estimated gains.
Different sources of synergy have different risks. Tax gains can be estimated fairly accurately and should
be discounted at the cost of debt. Cost reductions through operating efficiencies can also be determined
with some confidence. Such savings should be discounted at a normal weighted average cost of capital.
Gains from strategic benefits are difficult to estimate and are often highly uncertain. A discount rate
greater than the overall cost of capital would thus be appropriate.
The net present value (NPV) of the acquisition is equal to the gains less the cost of the acquisition. The cost
depends on whether cash or stock is used as payment. The cost of an acquisition when cash is used is just
the amount paid. The cost of the merger when common stock is used as the consideration (the payment)
is equal to the percentage of the new firm that is owned by the previous shareholders in the acquired firm
multiplied by the value of the new firm. In a cash merger the benefits go entirely to the acquiring firm,
whereas in a stock-for-stock exchange the benefits are shared by the acquiring and acquired firms.
Whether to use cash or stock depends on three considerations. First, if the acquiring firm’s management
believes that its stock is overvalued, then a stock acquisition may be cheaper. Second, a cash acquisition
is usually taxable, which may result in a higher price. Third, the use of stock means that the acquired firm

62
will share in any gains from merger; if the merger has a negative NPV, however, then the acquired firm
will share in the loss.
In valuing acquisitions, the following factors should be kept in mind. First, market values must not be
ignored. Thus, there is no need to estimate the value of a publicly traded firm as a separate entity. Second,
only those cash flows that are incremental are relevant to the analysis. Third, the discount rate used should
reflect the risk associated with the incremental cash flows. Therefore, the acquiring firm should not use
its own cost of capital to value the cash flows of another firm. Finally, acquisition may involve significant
investment banking fees and costs.
Mergers and acquisitions and corporate restructuring – or M&A for short – are a big part of the corporate
financeworld.Everyday,WallStreeinvestmentbankersarrangeM&Atransactionsthatbringtogetherseparate
companies to make larger ones. When they’re not creating big companies from smaller ones, corporate finance
deals do the reverse and break up companies through spinoffs, carve-outs, or tracking stocks.
Not surprisingly, these types of actions often make the news. Deals can be worth hundreds of millions or
even billions of dollars, and they can dictate the fortunes of the companies involved for years to come. For
CEOs, leading M&A can represent the pinnacle of their careeRs.
2.3 External Reconstruction
Reconstruction means reorganization of a company’s financial structure. In reconstruction of a company,
usually the assets and liabilities of the company are revalued, the losses suffered by the company are written
off by a deduction of the paid-up value of shares and/or varying of the rights attached to different classes
of shares and compounding with the creditoRs. It may be done without liquidating the company and
forming a new company in which case the process is called internal reconstruction. However, there may
be external reconstruction in which case the undertaking being carried on by the company is transferred
to a newly started company consisting substantially of the same shareholders with a view to the business
of the transferee company being continued by the transferee company. An attempt is made that the newly
started company has a sound financial structure and a good set of assets and liabilities recorded in the
books of the transferee company at their fair values.
From the point of view of an accountant, external reconstruction is similar to amalgamation in the nature
of purchase; the books of the transferee company are closed and in the books of the transferee company,
the purchase of the business is recorded. But otherwise external reconstruction and amalgamation differs
as follows:
(i) In external reconstruction, only one company is involved whereas in amalgamation, there are at least
two existing companies which amalgamate.
(ii) In external reconstruction, a new company is certainly formed whereas in amalgamation a new
company may be formed or in the alternative one of the existing companies may take over the other
amalgamating company or companies and no new company may be formed.
(iii) The objective of the external reconstruction is to reorganize the financial structure of the company,
on the other hand, the objective of the amalgamation is to cut competition and reap the economies of
larger scale.

63
Scheme of Reconstruction
The need for reconstruction arises when a company has accumulated losses or when a company finds
itself overcapitalized which means either that the value placed on assets is too much as compared to their
earning capacity or that the profits as a whole are insufficient to pay a proper dividend. Apart from clarity,
wide acceptance and justice, the reconstruction scheme must take into account the following:-
The fundamental basis of any proposals is the earning power of the company. Even the interest to debenture
holders cannot be paid unless the company’s activities are profitable. A very careful estimate should,
therefore, be made of the profits expected by the company in the future. Unless the profits are sufficient to
meet all the expenses including adequate depreciation, interest to debenture holders and other creditors,
preference dividend, and a reasonable return to the equity shareholder, it would be useless to process
with any reconstruction scheme because, otherwise, the need for reconstruction will soon arise again.
Assuming that adequate profits can be expected, the reconstruction scheme should not adversely affect
the rights of preference shareholders (not to speak of creditors and debenture holders) unless it is
absolutely necessary. Suppose, the profits are such that after paying dividends to preference shareholders
little remains for equity shareholders: the preference shareholder may be persuaded to accept a sacrifice
either by reduction of capital or by reduction in the rate of dividend or both because the alternative to
such acceptance of sacrifice may be the liquidation of the company (in which case, due to forced sale, the
asset may not realize much and the preference shareholder may not be able to get back what they have
invested). If the company is in very bad position, even the debenture holders may be prevailed upon to
accept a reduction of their claims. But, so far as is possible, contractual and legal rights and priorities
should be maintained.
The equity shareholder will naturally have to bear the brunt of the losses and sacrifice. This is not as bade
as it sounds because (a) the equity shareholders realize from the very beginning that if losses occur they
have to bear them before anybody else can be called upon to do so, and (b) they must have already known
that the value of their holding is small due to absence of dividend. The market price of share is related to
dividend and not to the face or nominal value of the share. It really does not matter, therefore, whether
the nominal value of an equity share is Rs. 1 or Rs. 100 or Rs. 1,000 as long as it is not 0. (This does matter
in case of preference shareholders and debenture holders whose earnings depend on the nominal value).
In fact, a reconstruction scheme may be beneficial to the equity shareholders by enabling the payment of a
dividend on such shares. On this ground, it would be unjust to ask the preference shareholders to accept
a sacrifice when the equity shareholders improve their position.
There is, however, one important right which the equity shareholders enjoy. This is control over the affairs
of the company. The equity shareholders will not easily give up this rite, and hence the reconstruction
scheme should keep this in mind. The equity shareholder may not agree to the conversion of preference
share or debenture into equity share even if the holders of preference shares or debenture are willing
to accept lower security for their holdings. The equity share holders may agree to this only if there is a
threat of the company being wound up (in which case they will lose almost all). It should also be noted
that without the consent of the parties their liability cannot be increased. For instances, fully paid shares
cannot be converted into partly paid shares without the consent of the shareholdeRs.
The requirements of the working capital must not be overlooked. Cash may require to pay certain
dissenting creditor or even to pay arrears of preference dividend. Generally, therefore, a company under
reconstruction will have to raise funds to enable it to pay off such dissenters and to carry on its work

64
smoothly. Which of the various parties are willing to subscribe more shares will have to be seen. The
equity shareholders will like to consolidate their position by buying more shares. Sometimes, outsiders
are willing to subscribe to the shares but they will generally prefer to do so if they are given a controlling
share.
Steps;
(1) First of all the total amounts to be written off should be ascertained. This would mean totaling up the
debit balance of the Profit and Loss account, all fictitious assets like goodwill, preliminary expenses,
discount on shares or debentures, any fall in value of assets, any increase in liabilities and arrears of
dividends on cumulative preference shares. If the value of any share can be legitimately increased
the amount of loss would then be reduced accordingly. The other way to get at the same figure
would be to add up the present value as a going concern, of all the assets and deduct there from the
amount of liabilities and also the arrears of dividend on cumulative preference shares. What is left is
“net assets”. The share capital compared with net assets will show how much amount is to be written
off.
(2) The question now arises has to who is to bear the loss. If the net assets are more than the preference
share capital, it is obvious the whole of the loss will have to be borne by the equity shareholdeRs. The
nominal value of the equity shares should be reduced by a sufficient margin to cover the loss. If the
net assets are not sufficient to cover the preference share capital (or if the net assets are just sufficient),
the preference share holder will have to accept a sacrifice, although their sacrifice will be smaller than
that of the equity share holdeRs. (Equity share holders should not be completely wiped off). If the
future earning power of the company permits, the dividend rate should be increased so that, in terms
of rupees, the dividend remains unchanged. Thus if 10.5% preference share of Rs. 100 are converted
into preference share of Rs. 75 each, rate of dividend should be raised to 14%, if possible. In both
cases, then the dividend will be Rs. 10.5 per share.
(3) Payment of arrears of dividend (question arises only in case of cumulative preference shares) in cash
immediately may present difficulties. In such a case a good method is to issue deposit certificates.
This is preferable to issuing shares because (a) it will not upset the voting power and (b) the certificate
can be redeemed as soon as opportunity arises. The rate of interest need not be heavy, but of course,
it will depend on the future earning capacity of the company.
(4) Debenture holders and other creditors are affected by the reconstruction scheme only if the total
assets in the company are insufficient to cover even the liabilities (although they are concerned is
necessary to any scheme that may be formulated). In such an eventuality, the creditors (including
debenture holders) will have to accept sacrifice unless they think that by sending the company into
liquidation we will be able to realize substantial portion of their claims. The share holders, both
preference and equity will have to accept a heavy reduction in the value of share but they cannot
be expected to agree to complete wiping of the shares, in which case they will have no interest in
keeping the company going. Generally, the sacrifice to be borne by the creditors will be as follows:
Preferential creditors Nil
(According to law)
Depending upon the value of the security Heaviest.

65
In short, the whole scheme should broadly depend upon the expected earning power and upon the
position as it likely to obtain if the company is sent to liquidation.
Internal vs. External Reconstruction: Having decided who is to bear how much sacriﬁce of loss and
having settled the broad details of the scheme, and important question remains to be decided. Will the
reconstruction be internal or external? Internal reconstruction means that the scheme will be carried out
by liquidating the existing company and incorporating immediately another company (with the name
only slightly changed such as A B Ltd. , to take over the business of the outgoing company. There are
advantages in both, but generally internal reconstruction is preferred. The advantages in its favour are:-
(a) Creditors, specially bank overdraft and debenture holders, may continue whereas they may not if
the company is formally liquidated which will involve payment of claims to outsiders, If they do not
continue, the company may suffer from want of financial assistance. This is, however, only academic
since no reconstruction scheme, even internal, will be really formulated without the consent of the
bank, debenture holdeRs. Etc.
(b) The company will be able to set off its past losses against future profits for income-tax purposes.
This will materially reduce the income-tax liability depending on the losses suffered during the
preceding eight yeaRs. Losses can be carried forward for eight years provided the business is carried
on. The business will technically end when the company is liquidated. Hence, in case of external
reconstruction, losses cannot be carried forward for income tax purposes.
The arguments in favour of external reconstruction are as under:-
(a) External reconstruction may be the only way to bring about speedy reconstruction because sometimes
a few people hold up the scheme by delaying tactics by means of legal objections.
(b) It may help in raising more finance by issuing to the existing shareholders partly paid shares in the
new company. It should be remembered that in internal reconstruction fully paid up shares unless
every shareholder gives his assent in writing. This may prove cumbersome. However, if shareholders
are willing to accept partly paid shares in the new company, there is not much reason why they
should refuse to buy new shares under a scheme of internal reconstruction.
Legal position as regards external reconstruction:
Sec 494 of the Companies Act permits the liquidator of a company to transfer the whole or any part of
the company’s business or property to another company and receive from the transferee company for
distribution among the share holders of the company under liquidation. The liquidator must obtain the
sanction of the company by a special resolution. Any sale of arrangement in pursuance of this section is
binding on the members of the transferor company.
But a shareholder who has not voted for the special resolution may, within seven days of the resolution,
serve a notice on the liquidator expressing his dissent and requiring the liquidator either, (a) to abstain
from carrying the resolution into effect, or (b) to purchase his interest at a price to be determined by
agreement or by arbitration.

66
Problems :
I. Computation and Discharge of Purchase Consideration
Problem - 1
The Oil Shell Ltd. was incorporated on 1st April 2008 for the purpose of acquiring P Ltd., Q. Ltd., and R
Ltd.
The Balance sheet of these companies as on 31st March 2009 are as follows :
(Rs.)
Particulars P Ltd. Q Ltd. R Ltd.
Assets
Tangible Fixed assets - at cost less depreciation 50,00,000 40,00,000 30,00,000
Goodwill 6,00,000
Other assets 20,00,000 28,00,000 8,50,000
Total 70,00,000 74,00,000 38,50,000
Liabilities
Issued Equity Share Capital (shares of Rs. 10 each) 40,00,000 50,00,000 25,00,000
Proﬁt and Loss A/c 15,00,000 11,00,000 6,00,000
10% Debentures 7,00,000 4,00,000
Sundry Creditors 8,00,000 13,00,000 3,50,000
Total 70,00,000 74,00,000 38,50,000
Average annual proﬁts before debentures interest 9,00,000 12,00,000 5,00,000
(April 2008 to March 2009 inclusive)
Professional valuation of tangible assets on
31st March 2009 62,00,000 48,00,000 36,00,000
1. The directors in their negotiations agreed that : (i) the recorded goodwill of Q Ltd. is valueless ;
(ii) the “Other assets” of P Ltd. are worth Rs. 3,00,000; (iii) the valuation of 31st March 2009 in respect
of tangible Fixed assets should be accepted. (iv) these adjustments are to be made by the individual
companyt before the completion of the acquitition.
2. The acquisition agreement provided for the issue of 12% unsecured Debentures to the value of the
net assets of companies P Ltd. Q Ltd and R Ltd., and for the issuance of Rs. 100 nominal value equity
shares for the capitalized average profit of each acquired company in excess of net assets contributed.
The capitalisation rate is established at 10%.
You are required to:
i. Compute Purchase consideration.
ii. Dicscharge of Purchase consideration.

67
Solution :
Computation of Purchase Consideration
WN # 1 : Consideration in the form of 12% Debentures
Particulars P Ltd. Q Ltd. R Ltd.
Rs. Rs. Rs. Rs. Rs. Rs.
a. Asset
i. Tangilbe Fixed assets
(as valuation)
62,00,000 48,00,000 36,00,000
ii. Other Assets (as per directors
negotiation)
3,00,000 65,00,000 28,00,000 76,00,000 8,50,000 44,50,000
b. Liabilities
i. Sundry Creditors 8,00,000 13,00,000 3,50,000
ii. 10% Debentures 7,00,000 (15,00,000) — (13,00,000) 4,00,000 (7,50,000)
c. NET ASSETS (a-b) 50,00,000 63,00,000 37,00,000
d. 12% Debentures to be issued. 50,00,000 63,00,000 37,00,000
WN # 2 : Consideration in the form of Equity Shares
Particulars P Ltd.
Rs.
Q Ltd.
Rs.
R Ltd.
Rs.
a. Average annual profit before debenture interest
(given)
9,00,000 12,00,000 5,00,000
b. Debenture interest (on 10% Debentures) 70,000 — 40,000
c. Profit after debentures interest (a-b) 8,30,000 12,00,000 4,60,000
d. Capitalisation rate 10% 10% 10%
e. Capitalised average profit (c/d) 83,00,000 1,20,00,000 46,00,000
f. Net Assets takeover (WN # 1(c)) 50,00,000 63,00,000 37,00,000
g. Excess of capitalised average profit over net assets take
over (e-f)
33,00,000 57,00,000 9,00,000
WN # 3 : Summary of Purchase Consideration
Particulars P Ltd.
Rs.
Q Ltd.
Rs.
R Ltd.
Rs.
a. 12% Debentures of Oil Shell Ltd. each @ Rs. 100/- [WN
# 1(d)]
50,00,000 63,00,000 37,00,000
b. Equity shares of Rs. 100 each of Oil Shell Ltd.
[WN # 2(g)]
33,00,000 57,00,000 9,00,000
c. Total Consideration 83,00,000 1,20,00,000 46,00,000

68
Problem - 2
Zee Ltd. agreed to absorb Gulf Ltd. on 31st March, 2009, whose Balance sheet stood as follows :
Liabilities Rs. Assets Rs.
Share capital Fixed assets 70,00,000
80,000 shares of Rs. 100 each Investments
fully paid 80,00,000 Current assets
Reserves and surplus Loans and Advances
General Reserve 10,00,000 Stock in trade 10,00,000
Secured Loan — Sundry Debtors 20,00,000
Unsecured Loan —
Current Liabilities and Provisions
Sundry creditors 10,00,000
1,00,00,000 1,00,00,000
The consideration was agreed to be paid as follows :
a. A payment in cash of Rs. 50 per share in Gulf Ltd. and
b. The issue of shares of Rs. 100 each in Zee Ltd., on the basis of 2 Equity Shars (valued at Rs. 150) and
one 10% cumulative preference share (valued at Rs. 100) for every five shares held in Gulf Ltd.
It was agreed that Zee Ltd. will pay in cash for fractional shares equivalent at agreed value of shares in
Gulf Ltd. i.e. Rs. 650 for ﬁve shares of Rs. 500 paid.
The whole of the Share capital consists of shareholdings in exact multiple of ﬁve except the following
holding.
Bharati 116
Sonu 76
Hitesh 72
Jagat 28
Other individuals 8 (eight members holding one share each)
300
Prepare a statement showing the purchase consideration receivable by above shareholders in shares and
cash.
Solution :
WN # 1 : Statement of consideration paid for fraction shares
Particulars Bharti Sonu Hitesh Jagat Others Total
a. Holding of shares 116 76 72 28 8 300
b. Non-exchangeable 1 1 2 3 8 15
shares (Payable in Cash)
c. Exchangeable Shares 115 75 70 25 — 285
[(a) - (b)]
d. Above shares
i. in Equity shares (2:5) 46 30 28 10 — 14
ii. in Preference shares (1:5) 23 15 14 5 — 57

69
WN # 2 : Number of shares to be issued
a. Exchangeable shares :
= Total shares – Non Exchangeable shares
= 80,000 – 15 = 79,985
b. Equity shares to be issued :
= 79,985
5
x 2 = 31,994 Shares (i.e. 2 shares for every 5 shares)
c. Preference shares to be issued
= 79,985
5
x 1 = 15,997 Shares (i.e. 1 shares for every 5 shares)
WN # 3 : Cash to be paid
Particulars Rs.
a. 79,985 shares @ Rs. 50 each 39,99,250
b. Consideration for non-exchangeable [15×100]× 650
500
(i.e. Rs. 650 for ﬁve 1,950
shares of Rs. 500 paid)
c. Total 40,01,200
Statement of Purchase Consideration :
Particulars Rs.
a. In Shares :
i. 31,994 Equity shares @ Rs. 150 each 47,99,100
ii. 15,997 Preference shares @ Rs. 100 each 15,99,700 63,98,800
b. In Cash (WN # 3) 40,01,200
c. Total (a+b) 1,04,00,000
Problem - 3
The summarized Balance Sheets of P Ltd. and R Ltd. for the year ended 31.3.2009 are as under :
P Ltd. R Ltd. P Ltd. R Ltd.
Rs. Rs. Rs. Rs.
Equity Share capital (in shares of 24,00,000 12,00,000 Fixed 55,00,000 27,00,000
Rs. 100 each) Assets
8% Preference Share capital (in 8,00,000 — Current
share of Rs. 100 each) Assets 25,00,000 23,00,000
10% Preference Share capital (in — 4,00,000
shares of Rs. 100 each)
Reserves 30,00,000 24,00,000
Current liabilities 18,00,000 10,00,000
80,00,000 50,00,000 80,00,000 50,00,000

70
1. The following information is provided :
P Ltd. R Ltd.
Rs. Rs.
a) Proﬁt before tax 10,64,000 4,80,000
b) Taxation 4,00,000 2,00,000
c) Preference dividend 64,000 40,000
d) Equity dividend 2,88,000 1,92,000
2. The Equity shares of both the companies are quoted in the market. Both the companies are carrying
on similar manufacturing operations.
3. P. Ltd. proposes to absorb R Ltd. as on 31.3.2009. The terms of absorption are as under :
a. Preference shareholders of R Ltd. will receive 8% preference shares of P. Ltd. sufficient to
increase the income of preference shareholders of R Ltd. by 10%
b. The equity shareholders of R Ltd. will receive equity shares of P Ltd. on the following basis :
i. The equity shares of R Ltd. will be valued by applying to the earnings per share of R
Ltd. 75% of price earnings ratio of P Ltd. based on the results of 2008-2009 of both the
companies.
ii. The market price of equity shares of P Ltd. is Rs. 400 per share.
iii. The number of shares to be issued to the equity shareholders of R Ltd. will be based on the
above market value.
iv. In addition to equity shares, 8% preference share of P Ltd. will be issued to the equity
shareholders of R Ltd. to make up for the loss in income arising from the above exchange
of shares based on the dividends for the year 2008-2009.
4. The assets and liabilities of R Ltd. as on 31.3.2009 are revalued by professional valuer as under :
Increased by Decreased by
Rs. Rs.
Fixed assets 1,60,000 —
Current assets — 2,00,000
Current liabilities 40,000
5. For the next two years, no increase in the rate of equity dividend is expected.
You are required to :
i) Calculate purchase consideration.
ii) Give the Balance Sheet as on 31.3.2009 after absorption.
Note : Journal entires are not required.

71
Solution :
I. Purchase Consideration
A. Preference Shareholders
8% preference shares of P Ltd. sufficient to increase income by 10%.
Particulars Rs.
Current income from Preference shares of R Ltd. 40,000
(Rs. 4,00,000 × 10%)
Add : 10% increase 4,000
Income from Preference Shares of P Ltd. 44,000
Value of 8% Preference Shares of R Ltd. to be issued [44,000×100/8] 5,50,000
B. Equity Shareholders
i. Consideration by way of Equity shares
Valuation of shares of P Ltd.
(12,000 shares × Rs. 240 [WN # 3]
Rs. 28,80,000
Share Capital Share Premium
[7,200 shares* ×Rs. 100] [7,200 shares* × Rs. 300]
Rs. 7,20,000 Rs. 21,60,000
* No. of shares to be issued = Rs. 28,80,000 ÷ Rs. 400
= 7,200 Shares
ii. Consideration by way of Preference Shares
Particulars Rs.
i. Current equity dividend from R Ltd. 1,92,000
ii. Expected Equity dividend from P Ltd. 86,400
iii. Loss in income 1,05,600
iv. Value of 8% Preference Shares to be issued (1,05,600 ÷ 8%) 13,20,000
C. Total Purchase Consideration
[5,50,000 + 28,80,000 + 13,20,000] Rs. 47,50,000
WN # 1 : Computation of EPS
Rs.
Particulars P Ltd. R Ltd
Profit before tax (PBT) 10,64,000 4,80,000
Less : Tax (given) (4,00,000) (2,00,000)
Profit after tax (PAT) 6,64,000 2,80,000
Less : Preference dividend (64,000) (40,000)
Profit available to equity shareholders 6,00,000 2,40,000
Earnings per share (Profit for Equity Shareholders ÷ No of Shares) 25 20

72
WN # 2 : P/E ratio of R Ltd.
P/E ratio =
Market Price
EPS
=
400
25
= Rs. 16
75% of P/E ratio = (16×0.75) = Rs. 12
WN # 3 : Value per share of P Ltd.
= EPS × P/E ratio
= Rs. 20 × Rs. 12
= Rs. 240
WN # 4 : Adjustment with Reserves
Total Purchase Consideration paid to R Ltd. 47,50,000
Less : Share Capital of R Ltd. 16,00,000
(Equity + Preference)
To be adjusted with Reserves 31,50,000
... Reserves = 30,00,000 + 24,00,000 – 31,50,000 = 22,50,000
P Ltd.
Balance Sheet as at on 31.03.2009 (after absorption)
Liabilities Amount
Rs.
Amount
Rs.
Assets Amount
Rs.
Amount
Rs.
Equity Share Capital 31,20,000 Fixed Assets 55,00,000
(@ Rs. 100 each) (+) R Ltd.
(24,000 + 7,200 (27,00,000 + 1,60,000) 28,60,000 83,60,000
Eq. Shares) Current Assets 25,00,000
8% Preference Shares (+)R Ltd.
of Rs. 100 each 26,70,000 (23,00,000 – 2,00,000) 21,00,000 46,00,000
(8,000+5,500+13,200)
= 26,700 shares)
Reserves (WN # 4) 22,50,000
Securities Premium 21,60,000
Current Liabilities 27,60,000
(18,00,000 + 10,00,000
– 40,000)
1,29,60,000 1,29,60,000

73
II Basics of Amalgamation and Absorption
Problem - 4
A Ltd. and B Ltd. amalgamated on and from 1st April 2009. A new Company C Ltd. was formed to take
over the businesses of the existing companies.
Balance Sheet as on 31.02.2003
Rs. in ’000
Liabilities A Ltd. B Ltd. Assets A Ltd. B Ltd.
Equity Shares of R. 100 each 60,000 70,000 Sundry Fixed Assets 85,000 75,000
General reserve 15,000 20,000 Investments 10,500 5,500
Proﬁt and Loss A/c 10,000 5,000 Stock 12,500 27,500
Investment allowance Debtors 18,000 40,000
Reserve 5,000 1,000 Cash and Bank 4,500 4,000
Export proﬁt reserve 500 1,000
12% Debentures 30,000 40,000
Sundry creditors 10,000 15,000
1,30,500 1,52,000 1,30,500 1,52,000
C Ltd. issued requisite number of equity shares to discharge the claims of the equity shareholders of the
transferor companies; The total shares issued as consideration is to be aggregate of paid up capital of A
Ltd. and B Ltd.
Compute the Purchase Consideration and mode of discharge thereof and draft the Balance Sheet of C Ltd.
after amalgamation on the following assumptions.
a. Amalgamation is the nature of MERGER
b. Amalgamation is the nature of PURCHASE
Solution:
i. Amalgamation in the nature of MERGER
♦ Nature of Amalgamation → MERGER
♦ Method of Accounting → POOLING OF INTEREST METHOD
ii. Computation of Purchase Consideration

74
Rs. in ’000)
Particulars A Ltd. B Ltd.
A. Assets
i. Sundry Fixed assets 85,000 75,000
ii. Investments 10,500 5,500
iii. Stock 12,500 27,500
iv. Debtors 18,000 40,000
v. Cash and Bank 4,500 4,000
1,30,500 1,52,000
B. Liabilities
i. 12% Debentures 30,000 40,000
ii. Sundry creditors 10,000 15,000
(40,000) (55,000)
C. NET ASSETS taken over [A-B] 90,500 97,000
Journal Entries in the Books of X Ltd. (in the case of Amalgamation in the nature of Merger)
Purchase consideration for amalgamation in the nature of merger.
Total consideration payable = Aggregate of paid-up capital of A Ltd. and B Ltd.
= Rs. 60,000 + Rs. 70,000
= Rs. 1,30,000
Total net assets taken over = Rs. 90,050 + Rs. 97,000
= Rs. 1,87,500
The total consideration payable to A Ltd. and B Ltd. is apportioned based on the net assets of the
companies.
A Ltd. : Rs. 1,30,000 x
90,500
1,87,500
= Rs. 62,750
B Ltd. : Rs. 1,30,000 x
97,000
1,87,500
= Rs. 67,250
(Rs. in ’000)
I. Take over a A Ltd:
a. For Business Purchase
Business Purchase A/c Dr. 62,750
To Liquidator of A Ltd. A/c 62,750
b. For Assets and Liabilities taken over:
i. Purchase consideration paid - 62,750
ii. Less: Paid up Share capital - 60,000
iii. Excess consideration paid - 2,750

75
As per AS-14 consideration will be adjusted
against for reserves of A Ltd.
The General reserves of A Ltd. to be incorporated =
Rs. 15,000 - Rs. 2,750 = Rs. 12,250
Sundry Fixed Assets A/c Dr. 85,000
Investments A/c Dr. 10,500
Stock A/c Dr. 12,500
Debtors A/c Dr. 18,000
Cash and Bank A/c Dr. 4,500
To General Reserve A/c 12,250
To Proﬁt and Loss A/c 10,000
To Investment Allowance Reserve A/c 5,000
To Export Proﬁt Reserve A/c 500
To 12% Debentures A/c 30,000
To Sundry creditors A/c 10,000
To Business Purchase A/c 62,750
c. For Discharge of Purchase Consideration:
Liquidator of A Ltd. A/c Dr. 62,750
To Equity Share capital A/c 62,750
II. Take over of B Ltd:
To Liquidator of B Ltd. A/c 67,250
b. For Assets and Liabilities Taken over:
i. Purchase Consideration Paid - 67,250
ii. Paid up Share capital - 70,000
iii. Short fall to Purchase Consideration - 2,750
The above short payment is to be credited to
“Capital reserve A/c” as per ICAI - Expert
Advisory Committee Opinion on AS-14
To General Reserve A/c 20,000
To Investment Allowance Reserve A/c 1,000

76
To Export Profit Reserve A/c 1,000
To Sundry Creditors A/c 15,000
To Capital Reserve A/c* 2,750
c. For Discharge purchase consideration:
Liquidator of B Ltd. A/c Dr. 67,250
Balance Sheet of C Ltd. as on 1.04.2009
Rs. in ’000
Liabilities Amount Assets Amount
Share Capital: Sundry Fixed assets 1,60,000
Equity Shares of (85,000 + 75,000)
Rs. 100/- each (60,000+70,000) 1,30,000 Investments (10,500 + 5,500) 16,000
Reserves and surplus: Current assets:
Capital Reserve 2,750 Stock (12,500 + 27,500) 40,000
General Reserve (12,250 + 20,000) 32,250 Debtors (18,000 + 40,000) 58,000
Profit and Loss A/c (10,000 + 5,000) 15,000 Cash and Bank (4,500 + 4,000) 8,500
Investment Allowance Reserve
(5,000 + 1,000) 6,000
Export Profit Reserve (500 + 1,000) 1,500
12% Debentures (Note 2) 70,000
(30,000 + 40,000)
Current liabilities and Provisions:
Sundry creditors (10,000 + 15,000) 25,000
2,82,500 2,82,500
Journal Entries in the Books of C Ltd. (in the case of Amalgamation in the nature of Purchase)
In the case of Amalgamation in the nature of purchase consideration will be paid on the bais of “Net As-
sets” and hence the purchase consideration is for A - Rs. 90,500 and for B - Rs.97,500.
Rs. Rs.
I. Take over of A Ltd:
a. For Business Purchase:
To Liquidator of A Ltd. A/c 90,500

77
II. Take over of B Ltd:
To Liquidator of B Ltd. A/c 97,000
To Sundry creditors A/c 15,000
c. Discharge of Purchase Consideration:
Note:Assumed that new debetures were issued in exchange of the old debentures.
Amalgamation Adjustment A/c Dr. 7,500
To Statutory Reserve A/c 7,500
Note: The “Amalgamation Adjustment A/c” should be disclosed as a part of “Miscellaneous Expenditure”
to the extent not written off or other similar category in the Balance Sheet of the TRANSFEREE
Company.

78
Balance Sheet of C Ltd. as on 1.4.09 after Amalgamation
Share Capital: Sundry Fixed assets 1,60,000
Equity Shares of (85,000 + 75,000)
Rs. 100/- each (90,500+97,000) 1,87,500 Investments (10,500 + 5,500) 16,000
Reserves and Surplus: Current Asset, and Loan Advances:
Investment Allowance Reserve Current Assets:
(5,000 + 1,000) 6,000 Stock (12,500 + 27,500) 40,000
Export Proﬁt Reserve (500 + 1,000) 1,500 Debtors (18,000 + 40,000) 58,000
12% Debentures (30,000 + 40,000) 70,000 Cash and Bank (4,500 + 4,000) 8,500
Current liabilities and Provisions: Miscellaneous Expenditure to
Sundry creditors (10,000 + 15,000) 25,000 the extent not written off:
Amalgamation 7,500
Adjustment A/c
2,90,000 2,90,000
Problem - 5
A Ltd. and B Ltd. were amalgamation on and from 1st April, 2009. A new company X Ltd. was formed to
take over the business of the existing companies. The Balance sheet of A Ltd and B Ltd as on 31st March,
2009 are given below:
(Rs. in lakhs)
Share capital: Fixed assets:
Equity Shares of Rs. 100/- 850 725 Land and Building 460 275
each Plant and Machinery 325 210
10% Preference Share of Investments 75 50
Rs. 100 each 320 175 Current Asset and
Reserves and surplus: Loans and Advances:
Revaluation Reserve 125 80 Stock 325 269
General reserve 240 160 Sundry Debtors 305 270
Investment Allowance 50 30 Bills receivable 25 —
Reserve Cash and Bank 385 251
Proﬁt and Loss Account 75 52
Secured Loans:
13%Debentures (Rs.100 each) 50 28
Unsecured Loan:
Public Deposits 25 —
Current liabilities and
Provision:
Sundry creditors 145 75
Bills Payable 20 —
1,900 1,325 1,900 1,325

79
Other Information:
i. 13% debentures of A Ltd and B Ltd are discharged by X Ltd. by issuing such number of its 15% de-
bentures of Rs. 100 each so as to maintain the same amount to interest.
ii. Preference shareholders of the two companies are issued equivalent number of 15% preference shares
of X Ltd. at a price of Rs. 125 per share (face value Rs. 100)
iii. X Ltd. will issue 4 equity shares for each equity share of A Ltd. and 3 equity shares for each equity
share of B Ltd. The shares are to be issued @ Rs. 35 each, having a face value of Rs. 10 per share.
iv. Investment allowance reserve is to be maintained for two more years.
Prepare the Balance sheet of X Ltd. as on 1st April, 2009 after the amalgamation.
Solution:
Method 1: Amalgamation in the Nature of Merger
WN # 1 : Calculation of Purchase Consideration
a. Equity Shares:
i. No. of Shares outstanding 8.50 7.25
ii. Exchange Ratio 4:1 3:1
iii. No. of Shares to be issued 34 21.75
iv. Issue price per share (Rs.) 35 35
v. Purchase Consideration 1190 761.25
• Share capital 340 217.50
• Securities Premium 850 543.75
b. Preference Shares:
i. No. of Shares outstanding 3.2 1.75
ii. Exchange Ratio 1:1 1:1
iii. No. of Shares to be issued 3.2 1.75
iv. Issue price per share (Rs.) 125 125
v. Purchase Consideration 400 218.75
• Share capital 320 175.00
• Securities Premium 80 43.75
c. Total Considertion {a(iv) + b(iv)} 1590 980.00
Rs. 2,570 Lakhs

80
WN # 2 : Computation of Debenture to be issued
a. Value of 13% Debentures takes over 50,00,000 28,00,000
b. 13% Interest on above value 6,50,000 3,64,000
c. 15% Debentures to be issued to keep same 43,33,333.33 24,26,666.66
interest amount
6,50,000 x
100
15 3,64,000 x
100
15
d. Total amont of debenture issued Rs. 67,60,000
Note: Normally fractions of Debentures is settled in Cash.
Balance Sheet of A Ltd. as at 31st March 2009 (after amalgamation)
(Rs. in Lakhs)
Share Capital: Fixed Assets:
Equity Share capital: Land and Building
Authorized, issued and (460 + 275) 735.00
Subscribed Plant and Machinery
Capital (340 Lakhs + 217.50 557.50 (325 + 210) 535.00
Lakhs) of Rs. 10 each - Investment (75+50)
[out of the above all the Current Asset and 125.00
shares were issued for Loans and Advances:
consideration other than cash] Stock (325+269) 594.00
15% Preference Share capital Debtors (305+270) 575.00
or Rs. 100 each (320000+175000) 495.00 Bills Receivable (25+ –) 25.00
[of the above all the shares were Cash and Bank 636.00
issued for consideration other (385+251)
than cash]
Reserves and surplus
Share Premium 1,517.50
[850+543.75+80+43.75]
Proﬁt and Loss (WN # 3) 37.40
Revaluation Reserve 205.00
Investment allowance reserve 80.00
Secured Loans:
15% Debentures 67.60
(Rs. 100 each) (WN # 2)
Unsecured Liabilities :
Public deposits 25.00
Sundry Creditors (145+75) 220.00
Bills Payable 20.00
3,225.00 3,225.00

81
WN # 3: Calculation of reserves to be incorporated in Balance Sheet.
a. Aggregated Purchase Consideration 2,570
b. Aggregate paid-up capial
i. Equity Share capital 1,575
ii. Preference Share capital 495 2,070
c. Excess 500
d. The above excess to be adjusted against:
i. General reserves 400
ii. P and L Account 100 500
e. Balance of Reserves available
i. Profit and Loss A/c 27
ii. Investment allowance reserve 80
iii. Revaluation reserve 205 312
f. Settlement to debenture holders
i. Debenure capital of transferee companies 78.00
ii. Less : Amount of A Ltd.’s debenture issued (67.60)
iii. Profit to be credited to Profit and Loss A/c 10.40
g. Balance of reserves to be incorporated
i. P and L Account 37.40
ii. Investment allowance reserve 80.00
iii. Revaluation reserve 205.00
Method 2: Amalgamation in Nature of Purchase
Balance Sheet of A Ltd. as on 31.03.09 (after amalgamation)
Liabilities Rs. in Assets Rs. in
Lakhs Lakhs
Share capital: Fixed assets: (WN1)
Equity Share capital of Rs. 100 each (of Land and Building 735.00
the above all he shares were issued for Plant and Machinery 535.00
consideration other than cash) 557.50 Investments 125.00
15% Preference Share capital of Rs. 100 Current assets and
each (of the above all the share were issued Loans and Advances
for consideration other than for cash) 495.00 Stock 594.00
Reserves and surplus: Debtors 575.00
Securities Premium (WN#1) 1517.50 Bills Receivable 25.00
Capital reserve (312+10.40) 322.40 Cash and Bank 636.00
Investment allowance 80.00 Misc. Exp. to be
Secured Loans extent not written off
15% Debentures of Rs. 100 each 67.60 Amalgamation
Unsecured Liabilities Adjustment amount 80.00
Public deposits 25.00
Creditors 220.00
Bills Payable 20.00
3,305.00 3,305.00

82
Problem - 6
A Limited and B Limited were amalgamated on and from 1st April, 2009. A new company D Limited was
formed to takeover the business of the existing companies. The Balance Sheet of A Limited and B Limited
and as on 31st March, 2009 are given below:
(Rs. in lakhs)
Share capital: Fixed assets 1,200 1,000
Equity Shares of Rs. 1,000 800 Current assets,
100 each Loans and Advances 880 565
15% Preference Share 400 300
Capital of Rs. 100 each
Reserve and Surplus:
Revaluation Reserve 100 80
General Reserve 200 150
P & L Account 80 60
Secured Loan:
12% Debentures of
Rs. 100 each 96 80
Current Liabilities
and Provisions 204 95
2,080 1,565 2,080 1,565
Other Information :
1. 12% Debenture holders of A Ltd. and B Ltd. are discharged by D Limited by issuing adequate number of
16% Debentures of Rs. 100 each to ensure that they continue to receive the same amount of interest.
2. Preference shareholders of A Ltd. and B Ltd. have received same number of 15% Preference share of
Rs. 100 each of D Limited.
3. D Ltd. has issued 1.5 equity shares for each equity share of A Ltd. and 1 equity share each equity share
of B Ltd. The face value of shares issued by D Ltd. is Rs. 100 each.
Required:
Prepare the Balance sheet of D Ltd. as on 1st April, 2009 after the amalgamation has been carried out using
pooling of interest method.

83
Solution:
WN # 1 : Calculation of purchase consideration:
Purchase consideration A Ltd. B Ltd.
i. No. of equity shares 10,00,000 8,00,000
Exchange Ratio 1:1.5 1:1
No. of equity shares to be issued 15,00,000 8,00,000
Equity Shares capital Rs. 15,000 Lakhs Rs. 800 Lakhs
ii. No. of preference shares 4,00,000 3,00,000
Exchange Ratio 1:1 1:1
No. of preference share to be issued 4,00,000 3,00,000
Preference Share Capital Rs. 400 Lakhs Rs. 300 Lakhs
Journal Entries in the books of D Ltd.
• Nature of Amalgamation - Merger
• Method of Accounting - Pooling of Interest
Debit Credit Debit Credit
Rs. Rs. Rs. Rs.
Business Purchase A/c Dr. 1,900 1,100
To Liquidator of Selling Co. A/c 1,900 1,100
b. Incorporation of Assets and Liabilities
taken over:
Fixed Assets A/c Dr. 1,200 1,000
Current Assets A/c Dr. 880 565
Profit and Loss A/c Dr. 120
To Current Liabilities A/c 204 95
To 12% Debentures A/c 96 80
To Revaluation Reserve A/c — 80
To General Reserve A/c WN#2 — 150
To Pofit and Loss A/c — 60
To Business Purchase A/c 1,900 1,100
c. Discharge of Purchase Consideration
Liquidator of Selling Co. A/c Dr. 1,900 1,100
To Equity Share Capital A/c 1,500 800
To Preference Share Capital A/c 400 300
d. Discharge of Debentures:
12% Debentures A/c Dr. 96 80
To 16% Debentures A/c 72 60
To Profit & Loss A/c (WN # 3) 74 20

84
WN # 2 : Reserves to be incorporated on the Amalgamation:
(in Lakhs)
Rs. Rs.
(i) Purchase consideration payable 1,900 1,100
(ii) Total paid up Share capital
(a) Equity Share capital 1,000
(b) Preference Share capital 400 1,400 1,100
(iii) Excess purchase consideration 500 Nil
(iv) Adjustment against reserves of transferee company:
(a) General reserve (200)
(b) Profit & Loss A/c Balance (80)
(c) Revaluation resrve (100)
(d) Profit & Loss A/c debit balance (120)
(v) Reserves of transferor company to be incorporated
(a) Revaluation Reserve — 80
(b) General Reserve — 150
(c) Profit & Loss A/c — 60
WN # 3 : Settlement of Debentures:
(in Lakhs)
Rs. Rs.
(i) Value of 12% Debentures 96 80
(ii) Interest Payable 11.52 9.6
(iii) 16% Debentures to be issued 72 60
11.52
16 x 100
9.6
16 x 100
(iv) Amount to be credited to Profit & Loss A/c (i)-(iii) 24 20
Balance Sheet D Ltd. as on 31.03.2009
Share capital: Fixed assets 2,200
Equity Share capital 2,300 (1,200 + 1,000)
Preference Share capital 700 Current assets, Loans and 1,445
Reserves and Surplus: Advances (880+665)
General Reserve 150
Profit & Loss A/c (116)
[(220)+60+20+24)
Revaluation Reserve 180
16% Debentures 132
Current Liabilities 299
3,645 3,645

85
Problem - 7
Given below Balance Sheets of M Ltd. and N Ltd. as on 31st March, 2009.
Balance Sheets
(in 000’s)
M Ltd. NLtd.
Rs. Rs.
Share Capital 1,00,000 1,20,000
General Reserve 50,000 40,000
Export Proﬁt Reserve 20,000 30,000
(Statutory Reserve as per Income Tax Law)
14% Debentures 50,000 50,000
Sundry Creditors 20,000 10,000
Provisions 20,000 20,000
Proposed Dividend 25,000 30,000
2,85,000 3,00,000
Assets M Ltd. N Ltd.
Rs. Rs.
Fixed Assets 1,65,000 1,80,000
Investments 50,000 —
Stock 50,000 50,000
Debtors 15,000 65,000
Cash and Bank Balances 5,000 5,000
2,85,000 3,00,000
Shares of M Ltd. and N Ltd. are Rs. 100/- each. M Ltd. held 15% shares of N Ltd. Z Ltd. has been formed
for the purpose of amalgamation which took over M Ltd. and N Ltd. and in exchange, shares of Z Ltd.
were issued. Expenses for amalgamation were Rs. 100 thousand. You are required to prepare post amal-
gamation balance sheet of Z Ltd. Show also the purchase consideration and exchange ratio. Calculate the
number of shares to be issued to the shareholders of the amalgamated company without increasing the
issued capital.

86
Solution:
(I) Calculation of Purchase Consideration
(Rs. in ’000’s)
Particulars M Ltd. N Ltd.
Rs. Rs.
a. Sundry Assets 2,85,000 3,00,000
b. Outside Liabilities:
i. Debentures 50,000 50,000
ii. Creditors 20,000 10,000
iii. Provisions 20,000 20,000
iv. Proposed Dividend 25,000 30,000
1,15,000 1,10,000
c. Net Assets (a-b) 1,70,000 1,90,000
d. Consideration restricted to Rs. 2,20,000 in the ratio 17:19 as 1,03,900 1,16,100
the problem required not to increase the Share capital.
(II) In the books of Z Ltd.
Section A : Amalgamation of M Ltd and N Ltd.
• Method of Amalgamation - Pooling of Interest
(Rs. in ’000)
Particulars M Ltd. N Ltd.
1. For Business Purchase :
Business Purchase A/c Dr. 1,03,900 1,16,100
To Liquidator of M Ltd. 1,03,900 1,16,100
2. For Assets and Liabilities
Taken over:
a. Purchase consideration 1,03,900 1,16,100
b. Less: Paid up capital (1,00,000) (1,20,000)
c. Excess consideration paid (Short fall) 3,900 (3,900)
d. Above excess to be adjusted
against General Reserve of M Ltd.
e. Balance reserve to be taken from
M Ltd. to incorporate in Z Ltd.

87
• General Reserve (50,000 - 3900) 46,100 43,900
• Export Profit Reserve 20,000 30,000
Fixed Assets A/c Dr. 1,65,000 1,80,000
Investments A/c Dr. 50,000 —
Stock A/c Dr. 50,000 50,000
Debtors A/c Dr. 15,000 65,000
Cash and Bank Balances A/c Dr. 5,000 5,000
To Debenture holders A/c 50,000 50,000
To Creditors A/c 20,000 10,000
To Provisions A/c 20,000 20,000
To Proposed Dividend A/c 25,000 30,000
To General Reserve A/c 46,100 43,900
(WN # 1 and 2)
To Export Profit Reserve A/c 20,000 30,000
To Business Purchase A/c 1,03,900 1,16,100
3. For Discharge of Purchase Consideration:
Liquidator of M Ltd. A/c Dr. 1,03,900 1,16,100
To Equity Share Capital A/c 1,03,900 1,16,100
(B) : Other transactions
(Rs. in ’000)
1. Issue of debentures to debenture holders of M Ltd.
and N Ltd.
Debenture holders of M Ltd. Dr. 50,000
Debenture holders of N Ltd. Dr. 50,000
To 14% Debentures A/c 1,00,000
2. Expenses of amalgamation
Profit and Loss A/c Dr. 1,000
To Bank A/c 1,000
Balance Sheet of Z Ltd. as at 31st March 2009
(Rs. ’000) (Rs. ’000)
Share capital: Fixed Assets (1,65,000 + 1,80,000) 3,45,000
Authorized, Issued and Subscribed Investments (50,000 + Nil) 50,000
(of the above, all shares are issued Curent assets and Loans
for consideration other than cash to and Advances

88
(Rs. ’000) (Rs. ’000)
M Ltd. and N Ltd. pursuant to 2,20,000 Stock (50,000 + 50,000) 1,00,000
Amalgamation approved by Cash at Bank 10,000
Honorable court) Less : Preliminary (1,000)
Reserves and surplus : Expenses 9,000
General Reserve
(43,900 + 46,100) 90,000 Debtors (15,000 + 65,000) 80,000
Less: Profit and Loss a/c (1,000)
(Debit Balance) 89,000
Export Profit Reserve (20,000 + 30,000) 50,000
Secured Loan
14% Debentures 1,00,000
Current liabilities to the Provisions
Creditors 30,000
Provisions 40,000
Proposed Dividend 55,000
5,84,000 5,84,000
Problem - 8
D Ltd. and F Ltd. were amalgamated on and from 1st April, 2009. A new Company P Ltd. was formed to
takeover the business of the existing companies. The Balance Sheets of D Ltd. and F Ltd. as on 31st March,
2009 are given below:
Liabilities D Ltd. F Ltd. Assets D Ltd. F Ltd.
Share capital Fixed assets:
Equity Shar of Rs. 10 each 85,000 72,500 Land and Building 79,500 43,300
9% Preference 32,000 17,500 Investments 7,500 5,000
Shares of Rs. 100 each Current assets:
Reserve and Surplus: Stock 32,500 26,900
Revaluation Reserve 12,500 8,000 Debtors 30,500 27,000
General Reserve 24,000 16,000 Bills Receivable 2,500 —
Export Profit Reserve 7,500 3,000 Cash and Bank 30,000 25,100
Secured Loan:
13% Debentures of 5,000 2,800
Rs. 100 each
Current liabilities
and Provisions
Bills Payable 2,000 –
1,82,500 1,27,300 1,82,500 1,27,300

89
Other informations:
1. 13% Debenture holders of D Ltd. and F Ltd. are discharged by P Ltd. by issuing such number of its
15% Debentures of Rs. 100 each so as to maintain the same amount of interest.
2. Preference Shareholders of the two companies are issued equivalent number of 12% Preference Shares
of P Ltd. at a price of Rs. 12.50 per share (face value Rs.10).
3. P Ltd. will issue 2 equity shares for each equity share of D Ltd. and 2 equity shares for each equity
share of F Ltd. at Rs. 15 per share having a face value Rs. 10.
4. Export Proﬁt Reserve is to be maintained for two more years.
Prepare Journal Entries and prepare the Balance Sheet of P Ltd. after the amalgamation is carried out using
under Merger Method.
Solution:
WN # 1 : Calculation of Purchase Consideration
Particulars D Ltd. F Ltd.
Rs. Rs.
a. In Preference shares:
i. No. of Preference shares outstanding 3,200 1,750
ii. Exchange ratio 1:1 1:1
iii. No. of shares to be issued 3,200 1,750
iv. Issue Price Rs. 12.5 Rs. 12.5
v. Value of Shares to be issued Rs. 40,000 Rs. 21,875
b. In Equity shares:
i. No. of Preference shares outstanding 8,500 7,250
ii. Exchange ratio 2:1 2:1
iii. No. of shares to be issued 17,000 14,500
iv. Issue Price Rs. 15 Rs. 15
v. Value of Shares to be issued Rs. 2,55,000 Rs. 2,17,500
c. Total Purchase Consideration (a+b) Rs. 2,95,000 Rs. 2,39,375
In the books of P Ltd.
1. Amalgamation of D Ltd.

90
a. For Busines Purchase
Business Purchase A/c Dr. 2,95,000
To Liquidator of D Ltd. 2,95,000
b. Incorporated of assets and liabilities
Consideration 2,95,000
Less: Paid up share capital (1,17,000)
Amount to be adjusted
against reserves 1,78,000
Less : General reserve (24,000)
Proﬁt and Loss balance (Dr.) 1,54,000
Land and Building A/c Dr. 79,500
Bill Receivable A/c Dr. 2,500
Proﬁt and Loss A/c Dr. 1,54,000
Cash and bank A/c Dr. 30,000
To Revaluation Reserve A/c 12,500
To Bills Payable A/c 2,000
To Debenture A/c 5,000
To Business Purchase A/c 2,95,000
c. For Discharge of Consideration
Liquidator of D Ltd. A/c Dr. 2,95,000
To Equity Share Capital A/c 1,70,000
To Preference Share Capital A/c 32,000
To Securities Premium A/c 93,000
*Note: Securities Premium includes both Equity & Preference shares Premium
II. Amalgamation of F Ltd.

91
Rs. Rs.
To Liquidator of F Ltd. 2,39,375
b. For of Assets and Liabilities taken over:
Amount of Reserves to be incorporated.
Consideration 2,39,375
Less: Paid up Share capital (90,000)
Amount to be adjusted
against Reserves 1,49,375
Less : General Reserve (16,000)
Proﬁt and Loss Balance (Dr.) 1,33,375
Land and Building A/c Dr. 3,300
Proﬁt and Loss A/c Dr. 1,33,375
To Revaluation Reserve A/c 80,000
c. For Discharge of consideration
Liquidator of F Ltd. A/c Dr. 2,39,375
To Preference Share Capital A/c 17,500

92
III. Others:
For Discharge of Debenture Liability
13% Debenture A/c Dr. 7,800
WN # 2 : Discharge of Debentures :
Rs.
a. 13% Debenture Outstanding = 5,000 + 2,800 = 7,800
b. Interest Payable = 650 + 364 = 1,014
c. 15% Debenture to be issued = 4,333 + 2,427 = 6,760
650
15% +
364
15%
d. Amount to be credited to
profit and loss account [(a)-(c)] =667 + 373 1,040
Note:
In “Amalgamation in the nature of Merger” all the assets and liabilities are to be taken at Book values. Change
in the rate of interest will amount to violation of the above condition i.e. it is in the nature of purchase. But
as the problem specifically require to solve “in the nature of merger”, the problem is solved accordingly.
Balance sheet of P Ltd.as on 01.04.09
Share capital: Fixed Assets:
Equity shares of Rs. 10 each 3,15,000 Land and Building 1,22,800
9% Preference Shares of Rs. 10 each 49,500 Investments 12,500
Reserve and Surplus : Current Assets :
Securities Premium : Stock 59,400
(85,000 + 72,500 + 8,000 + 4,375) 1,69,875 Debtors 57,500
Revaluation Reserve 20,500 Cash and Bank 55,100
Export Profit Reserve 10,500 Bills Receivable 2,500
Secured Loans : Profit / Loss 2,86,335
15% Debentures of Rs. 100 each 6,760 (1,54,000 + 1,33,375 -
Current liabilities and Provisions : 1,040)
Bills Payable 2,000
Sundry creditors 22,000
5,96,135 5,96,135

93
Problem - 9
Given below Balance Sheets of Ram Ltd and Rahim Ltd. as on 31.3.2009. Rahim Ltd. was merged with Ram
Ltd. with effect from 01.04.2009.
Balance Sheets as on 31.3.2009
(Rs.)
Liabilities Ram Rahim Assets Ram Rahim
Ltd. Ltd. Ltd. Ltd.
Share Capital : Sundry Fixed Assets 9,50,000 4,00,000
Equity Shares of Investments (Non- 2,00,000 50,000
Rs. 10 each 7,00,000 2,50,000 trade)
General Reserve 3,50,000 1,20,000 Stock 1,20,000 50,000
Profit and Loss A/c 2,10,000 65,000 Debtors 75,000 80,000
Export Profit Reserve 70,000 40,000 Advance Tax 80,000 20,000
12% Debentures 1,00,000 1,00,000 Cash and Bank 2,75,000 1,30,000
Sundry Creditors 40,000 45,000 balances
Provision for Taxation 1,00,000 60,000 Preliminary Expenses 10,000 —
Proposed Dividend 1,40,000 50,000
17,10,000 7,30,000 17,10,000 7,30,000
Ram Ltd. would issue 12% Debentures to discharge the claims of the debenture holders of Rahim Ltd. at
par. Non-trade investments of Ram Ltd. fetched @ 25% while those of Rahim Ltd. fetched @ 18%. Profit
(pre-tax) by Ram Ltd and Rahim Ltd. during 2006-07, 2007-08 and 2008-09 and were as follows :
Year Ram Ltd. Rahim Ltd.
Rs. Rs.
2006-07 5,00,000 1,50,000
2007-08 6,50,000 2,10,000
2008-09 5,75,000 1,80,000
Goodwill may be calculated on the basis of capitalisation method taking 20% as the pretax normal rate of
return. Purchase consideration is discharged by Ram Ltd. on the basis of intrinsic value per share. Both
companies decided to cancel the proposed dividend.
Required Balance Sheet of Ram Ltd. after merger.
Solution:
WN # 1: Purchase Consideration:
(i) Shares outstanding in Rahim Ltd. 25,000
(ii) Intrinsic Value per Share of Rahim Ltd. [WN # 2] Rs. 36.20
(iii) Value of Shares (a×b) Rs. 9,05,000

94
(iv) Intrinsic value per share of Ram Ltd. [WN # 2] Rs. 40.40
(v) No. of shares to be issued by Ram Ltd.
Rs. 905000 / Rs. 40.40 = 22400.99
Shares Cash for fractions
22400 0.99 × 40.40 = 40
(iv) Purchase consideration
(a) 22400 shares @ 40.40
Capital [Rs.10 / Share] 2,24,000
Premium [Rs. 30.40 / Share] 6,80,960 = 9,04,960
(b) Cash for fractional shares = 40
(c) Total purchase consideration payable = 9,05,000
WH # 2 : Intrinsic Value per share :
(Rs.)
Ram Ltd. Rahim Ltd.
(i) Assets
(a) Goodwill 13,65,000 3,80,000
(b) Sundry Fixed assets 9,50,000 4,00,000
(c) Investments 2,00,000 50,000
(d) Stock 1,20,000 50,000
(e) Debtors 75,000 80,000
(f) Advance Tax 80,000 20,000
(g) Cash and Bank Balance 2,75,000 30,65,000 1,30,000 11,10,000
(ii) Liabilities
(a) 12% Debentures 1,00,000 1,00,000
(b) Sundry creditors 40,000 45,000
(c) Provision for tax 1.00,000 (2,40.000) 60.000 (2,05.000)
(iii) Net Assets (i-ii) 28,25,000 9,05,000
(iv) No. of Outstanding Shares 70,000 25,000
(v) Intrinsic Value per share (iii)/(iv) 40.40 36.20

95
W # 3 : Valuation of Goodwill
A. Capital Employed
Ram Ltd. Rahim Ltd.
(i) Assets :
(a) Sundry Fixed assets 9,50,000 4,00,000
(b) Investment (Non-trade) - -
(c) Stock 1,20,000 50,000
(d) Debtors 75,000 80,000
(e) Advance tax 80,000 20,000
(f) Cash and Bank balance 2,75,000 15,00,000 1.30.000 6,80,000
(ii) Liabilities:
(a) 12% Debentures 1,00,000 1,00,000
(b) Sundry creditors 40,000 45,000
(c) Provision for tax 1,00,000 2,40,000 60,000 2,05,000
(iii) Capital Employed: (i) - (ii) 12,60,000 4,75,000
B. Average Pre-tax Profit :
Particulars Ram Ltd. Rahim Ltd.
(i) 2006-07 5,00,000 1,50,000
(ii) 2000-08 6,50,000 2,10,000
(iii) 2008-09 5,75,000 1,80,000
(iv) Total (a+b+c) 17,25,000 5,40,000
(v) Simple Average [(iv)/3] 5,75,000 1,80,000
(vi) Less: Non-trading income (50,000) (9,000)
(vii) Average pre-tax profit 5,25,000 1,71,000
C. Computation of Goodwill :
Particulars Ram Ltd. Rahim Ltd.
Rs. Rs.
a. Capitalised value of average profits
5,25,000
0.20 ;
1,71,000
0.20 26,25,000 8,55,000
b. Capital Employed 12,60,000 4,75,000
c. Goodwill (a-b) 13,65,000 3,80,000

96
Journal Entries - Books of Ram Ltd.
• Nature of Amalgamation – PURCHASE
• Method of Accounting – PURCHASE METHOD
To Liquidator of Rahim Ltd. A/c 9,05,000
b. For Assets and Liabilities taken over
Goodwill A/c Dr. 3,80,000
Fixed Assets A/c Dr. 4,00,000
Advance tax A/c Dr. 20,000
Cash and Bank A/c Dr. 1,30,000
To 12% Debenture holders A/c 1,00,000
To Creditors A/c 45,000
To Provision for Taxation A/c 60,000
Liquidator of Rahim Ltd. Dr. 9,05,000
To Equity Share capital A/c 2,24,000
To Securities premium A/c 6,80,000
To Cash A/c 40
d. Contra Entry
Amalgamation Adjustment A/c Dr. 40,000
Balance Sheet Ram Ltd as at 01.04.09 (after Merger)
Share capital: Fixed assets:
Issued, Subscribed Paid up 9,24,000 Goodwill (WN # 3C) 3,80,000
Share capital Sundry Fixed assets 13,50,000
92,400 Equity Shares of Rs. 10 each. (9,50,000 + 4,00,000)
(Of which 22,400 shares were Investment 2,50,000
issued for consideration other Current assets, Loans
than cash) and Advances:
Reserves and surplus Stock (1,20,000 + 50,000) 1,70,000
Share Premium 6,80,960 Debtors (75,000 + 80,000) 1,55,000
General Reserve 3,50,000 Advance tax (80,000+20,000) 1,00,000

97
Profit and Loss A/c 2,10,000 Cash and Bank Balances
Add: Proposed (2,75,000 + 1,30,000 - 40) 4,04,960
Dividend cancelled 1,40,000 3,50,000 Miscellaneous Expenses:
Export Profit Reserve 1,10,000 Preliminary Expenses 10,000
(70,000 + 40,000) Amalgamation
Secured Loans Adjustment A/c 40,000
12% Debenture 2,00,000
(1,00,000 + 1,00,000)
provisions:
Sundry creditors
(40,000 + 45,000) 85,000
Provision for tax
(1,00,000 + 60,000) 1,60,000
28,59,960 28,59,960
Problem - 10
The following are the Balance sheets of Fat Ltd. and Thin Ltd. for the year ending on 31st March, 2009.
(Figures in Crores)
Fat Ltd. Thin Ltd.
Equity Share capital. @ Rs. 10 each 50 40
Preference Share capital - in 12% preference shares of Rs. 100 each – 60
Reserves and surplus 200 150
250 250
Loan - Secured 100 100
Total 350 350
Fixed assets (at cost less depreciation) 150 150
Current assets less Current liabilities 200 200
Total 350 350
The present worth of Fixed assets of Fat Ltd. is Rs. 200 crores and that of Thin Ltd. is Rs. 429 crores. Goodwill
of Fat Ltd. is Rs. 40 crores and of Thin Ltd. is 75 crores.
Thin Ltd. absorbs Fat Ltd. by issuing equity shares at par in such a way that intrinsic networth is
maintained.
Goodwill account is not to appear in the books. Fixed assets are to appear at old figures.
(a) Show the Balance Sheet after absorption.
(b) Draft a statement of valuation of shares on intrinsic value basis and prove the accuracy of your
workings.

98
Solution:
Part-I: Purchase consideration
WN # 1 : Intrinsic Value of Equity Shares
(Rs. in Crores)
Particulars Fat Ltd. Thin Ltd.
a) Assets :
i. Goodwill 40 75
ii. Fixed assets 200 429
iii. Current asset less Current liabilities 200 200
440 704
b) Liabilities
i. Secured Loans (100) (100)
ii. 12% Preference Share capital - (60)
c) Net Assets attributable to Equity shareholders 340 544
d) Number of Shares (in Crores) 5 4
e) Value per share of Rs. 10 each Rs. 68 Rs. 136
WN # 2 : Determination of Exchange Ratio and the number of shares to be issued
Exchange Ratio is based on intrinsic value per share of the companies
Fat Ltd. : Thin Ltd.
i. Intrinsic value Rs. 68 : Rs. 136
ii. Exchange ratio 1 : 2
1 share of Small Ltd. for 2 shares of Fat Ltd.
Therefore, Number of shares to be issued = Number of shares of Thin Ltd. × %
= 5 crores × 50% (i.e. ratio is 1:2 =50%)
= 2.5 crores
Journal Entries in the books of Thin Ltd.
• Nature of Amalgamation - Purchase
• Method of Accounting - Purchase
(Rs. in Crores)
Rs. Rs.
1. For Business Purchase
Business Purchase A/c Dr. 25
To Liquidator of Fat Ltd. 25
2. For assets and liabilities taken over :
Fixed Assets A/c Dr. 150
Net Current Assets A/c Dr. 200
To Secured Loans A/c 100
To Capital Reserve A/c 225
To Business Purchase A/c 25
3. For Discahrge of Purchase Consideration:
Liquidator of Fat Ltd. A/c Dr. 25
To Equity Share Capital A/c 25

99
Balance Sheet of Thin Ltd. as at 1st April, 2009
Share capital 65 Fixed assets
6.5 crore equity shares of (150 + 150) 300
Rs.10 each
(of the above shares, 2.5 Net Current assets 400
crores equity shares are (200 + 200)
allotted as fully paid up
for consideration other
than cash)
12% Preference Share capital 60
(60 lakhs shares of Rs. 100 each)
Reserves and surplus :
Capital Reserve 225
Other Reserve 150 375
Secured Loans (100+100) 200
700 700
WN 3 : Statement to prove the accuracy of workings.
(Rs. in Crores)
(i) Equity Share capital (after absorption) 65
Add: Reserves Surplus (after absorption) 375
Add: Unrecorded value of goodwill (40+75) 115
Add: Unrecorded incremental value of Fixed assets (50+279) 329
Value of the Business 884
(ii) Number of Equity shares (4 + 2.5) 6.5 Crores
(iii) Intrinsic value of an equity share (884/6.5) Rs. 136
Problem - 11
Divya Ltd. agreed to take over the Swati Ltd. as a going concern-both companies being engaged in the
same trade.
Divya Ltd. was to pay the debentures and liabilities of Swati Ltd. and take over the assets, the consideration
being the issue by Divya Ltd. of 4,00,000 fully paid shares of Rs. 10 each and the payment of Rs. 3,00,000 in
cash to the Swati Ltd. Divya Ltd. was to pay the liquidation expenses, which amounted to Rs. 1,40,000.
The Balances in the books of the respective companies, as on the date of absorption are given hereunder.

100
Assets Liabilities
Divya Swati Divya Swati
Particulars Ltd. Ltd. Ltd. Ltd.
Rs. Rs. Rs. Rs.
Authorised Capital :
Divya Ltd. 20,00,000 shares of
Rs.10 each. 2,00,00,000 75,00,000
Swati Ltd. 7,50,000 shares of
Rs.10 each
Issued Capital – – 1,50,00,000 50,00,000
Unpaid Calls 50,000 10,000 – –
10% Debentures – – 50,00,000 10,00,000
Land and Buildings 1,03,33,000 35,68,200 – –
Goodwill 30,00,000 5,00,000 – –
Sundry Debtors and Creditors 7,24,000 3,98,400 834,200 4,36,200
Bank Balances 16,84,200 – – 2,00,000
Stock 17,92,600 7,85,200 – –
Plant and Machinery 38,76,800 16,43,900 – –
Bills Receivable 3,62,100 – – –
Proﬁt and Loss
Account balances – – 9,88,500 2,69,500
2,18,22,700 69,05,700 2,18,22,700 69,05,700
Assume that the absorption was duly effected but that the unpaid calls and a book debt of Rs.40,000 due
to Swati Ltd. proved irrecoverable.
Prepare the Realisation Account and Members Account in the books of Swati Ltd. and the Balance Sheet
of Divya Ltd. after the absorption. Your working should form part of the answer.
Solution :
Part I - Calculation of Purchase consideration - Payments Method
Divya Ltd to take over Swati Ltd by :
Rs.
a. Issuing 4,00,000 equity shares of Rs.10 each fully paid : 40,00,000
b. Cash : 3,00,000
c. Total Purchase consideration 43,00,000

101
Part II - In the books of transferor company Swati Ltd.
Realisation Account
Dr. Cr.
Particulars Rs. Particulars Rs.
To Goodwill 5,00,000 By 10% Debentures 10,00,000
To Land 35,68,200 By Sundry Creditors 4,36,200
To Sundry debtors 3,98,400 By Bank Overdraft 2,00,000
To Stock 7,85,200 By Bad debts 40,000
To Plant and Machinery 16,43,900 By Shareholders A/c Loss 9,19,500
To Cash (Realisation Exp.) 1,40,000 on Realisation (balancing ﬁgure)
By Divya Ltd.
Purchase consideration 43,00,000
Realisation Expenses 1,40,000
70,35,700 70,35,700
Shareholders Account
Dr. Cr.
To Unpaid capital 10,000 By Equity Share capital 50,00,000
To Realisation A/c (Loss) 9,19,500 By Proﬁt and Loss A/c 2,29,500
To Divya Ltd. 43,00,000 (2,69,500 – 40,000)
(purchase consideration)
52,29,500 52,29,500
Note:
a. Realisation loss includes the irrecoverable amount of debtors considered as bad debt in Realisation
amount.
b. For Realisation expenses reimbursed by Divya Ltd.
i. Realisation A/c Dr. 1,40,000
To Cash A/c 1,40,000
ii. Divya Ltd A/c Dr. 1,40,000
To Realisation A/c 1,40,000
Part III - In the Books of Divya Ltd :

102
Rs. Rs.
a. For Business Purchase :
To Liquidator of Swati Ltd. 43,00,000
b. For takeover of Assets and Liabilities:
Land and Building A/c Dr. 35,68,200
Sundry Debtors A/c (3,98,400 – 40,000) Dr. 3,58,400
Stock A/c Dr. 7,85,200
Plant and Machinery A/c Dr. 16,43,900
To Capital Reserve A/c 9,19,500
To Creditors A/c 4,36,200
To Bank Overdraft A/c 2,00,000
To Debentures A/c 10,00,000
c. Discharge of consideration
Liquidator of Swati Ltd. A/c Dr. 43,00,000
d. Reimbursement of realisation expenses:
Capital Reserve A/c Dr. 1,40,000
[Being Reimbursement of realisation expenses
adjusted against Capital reserve]
Balance Sheet of Divya Ltd. (After Amalgamation)
Share capital : Fixed Assets :
Authorised capital 2,00,00,000 Goodwill 35,00,000
20 lakhs shares of Rs. 10 each Land and Building 1,39,01,200
Plant and Machinery 55,20,700
Issued capital 1,90,00,000 Current Assets and Loans
19 lakhs share of Rs. 10 each and Advances :
[of the above, 4 lakh shares Sundry Debtors 10,82,400
were issued to Swati Ltd for Stock 25,77,800
consideration other than Bills Receivable 3,62,100
cash] Bank Balance (16,84,200 - 12,44,200
3,00,000 - 1,40,000)
Less : Unpaid calls (50,000)
1,89,50,000

103
Reserves and Surplus :
Capital Reserve 7,79,500
Profit & Loss 9,88,500
Secured Loans :
10% Debentures (50+10) 60,00,000
Current Liabilities and
Provision :
Creditors 12,70,400
Bank Overdraft 2,00,000
2,81,88,400 2,81,88,400
Problem - 12
A Ltd. agreed to take over B Ltd. as on 1st October, 2008. No Balance Sheet of B Ltd. was prepared on that
date.
Balance Sheets of A Ltd. and B Ltd. as at 31st March, 2008 were as follows :
A Ltd. B Ltd. A Ltd. B Ltd.
Rs. Rs. Rs. Rs.
Share capital: 15,00,000 10,00,000 Fixed Assets 12,50,000 8,75,000
In equity shares Current Assets :
of Rs. 10 each Stock 2,37,500 1,87,500
fully paid up Debtors 3,90,000 2,93,750
Reserves and Bank 2,56,000 1,50,000
surplus: Miscellaneous
Reserve 4,15,000 2,56,000 Expenditure
Profit and Loss 1,87,500 1,50,000 Preliminary
Creditors 93,750 75,000 Expenses 25,000 12,500
21,96,250 14,81,000 21,96,250 14,81,000
Additional information available:
i) For the six months period from 1st April, 2008, A Ltd. made a profit of Rs. 4,20,000 after writing off
depreciation at 10% per annum on its Fixed assets.
ii) For the same period, B Ltd. made a net profit of Rs. 2,04,000 after writing off depreciation at 10% p.a.
on its Fixed assets.
iii) Both the companies paid on 1st August, 2008 equity dividends of 15%. Tax at 10% on such payments
was also paid by each of them.
iv) Goodwill of B Ltd. was valued at Rs. 1,20,000, on the date of take-over, stock of B, subject to an abnormal
item of Rs. 7,500 to be fully written off, would be appreciated by 25% (or purpose of take-over).
v) A Ltd. to issue to B’s shareholders fully paid equity share of Rs.10 each, on the basis of the comparative
intrinsic value of the shares on the take-over date.

104
Draft the Balance sheet of A Ltd. after absorption of B Ltd.
Solution :
• Nature of Amalgamation - Purchase Method
• Method of Accounting - Purchase Method
Part - 1 Purchase consideration
WN # 1 : Balance sheet of A Ltd. and B Ltd. as on 1st October 2008
[Before absorption]
(Rs.)
Liabiltiies A Ltd. BLtd. Assets A Ltd. BLtd.
Share capital 15,00,000 10,00,000 Fixed Assets 11,87,500 8,31,250
Reserves and [WN # 1 (a)]
Surplus Current Assets :
Reserves 4,15,000 2,56,000 Stock [WN # 1 (d)] 2,37,500 1,87,500
Profit and Loss A/c 3,60,000 1,89,000 Debtors 3,90,000 2,56,000
[WN # 1 (d)]
[WN # 1 (c)] Bank [WN # 1 (b)] 5,28,750 2,32,750
Creditors 93,750 75,000 Miscellaneous Exp.
[WN # 1 (d)] Preliminary 25,000 12,500
expenditure
23,68,750 15,20,000 23,68,750 15,20,000
(Rs.)
Particulars A Ltd. BLtd.
WN # 1(a) Fixed assets :
As on 1.4.08 12,50,000 8,75,000
Less: Depreciation for 6 months
[1-4-08 to 30-9-08] 62,500 43,750
Balance carried to balance sheet 11,87,500 8,31,250
WN # 1(b) Bank Balance :
As on 31.3.08 2,93,750 1,50,000
Add : Net profit after depreciation 4,20,000 2,04,000
Add : Depreciation 62,500 43,750
7,76,250 3,97,750
Less : Dividend @ 15% (2,25,000) (1,50,000)
Less : Dividend tax @ 10% (22,500) (15,000)
Balance carried to balance sheet 5,28,750 2,32,750
WN # 1(c) Profit and Loss A/c.
Balance as on 31.3.08 1,87,500 1,50,000
Add : Profit after depreciation for 6 months 4,20,000 2,04,000
6,07,500 3,54,000
Dividend (2,25,000) (1,50,000)
Dividend tax (22,500) (15,000)
3,60,000 1,89,000

105
WN # 1(d) Stock and debtors :
It is assumed that in the absence of any other
information, the amount of stock and debtors
as on 1st October 2008 and 1st April 2008 is
same.
WN # 2 : Intrinsic value per share :
(Rs.)
A Ltd. B Ltd.
A. Assets :
(i) Goodwill – 1,20,000
(ii) Fixed assets 11,87,500 8,31,250
(iii) Stock 2,37,500 2,25,000
(iv) Debtors 3,90,000 2,56,000
(v) Bank 5,28,750 2,32,750
23,43,750 16,65,000
B. Liabilities
Creditors (93,750) (75,000)
C. Net asset (A - B) 22,50,000 15,90,000
D. Number of shares 1,50,000 1,00,000
E. Intrinsic value per share (C÷D) 15 15.90
WN # 3 : Purchase consideration.
a. No. of shares of B Ltd. 1,00,000
b. Value of shares of B Ltd. (1,00,000 × 15.9) = Rs. 15,90,000
c. Intrinsic value per share of A Ltd. Rs. 15
d. No. of share to be issued by A Ltd. to B Ltd. = 1,06,000
15,90,000
15
... Purchase consideration = Rs. 15,90,000
|
Share capital Securities premium
Rs. 10,60,000 Rs. 5,30,000
Part II - Balance sheet of A Ltd. (after absorption of B Ltd.)
Rs. Rs.
Share capital Fixed assets :
(1,50,000 + 1,06,000) Goodwill 1,20,000
2,56,000 Equity shares of Rs. 10/- Other Fixed assets 20,18,750
each fully paid [1,06,000 shares Current assets, Loans and
alloted for consideration other 25,60,000 Advances :
than cash] Stock 4,62,500
Reserves and surplus: Debtors 6,46,000
Securities premium 5,30,000 Bank 7,61,500

106
Rs. Rs.
Reserves 4,15,700 Miscellaneous Expenditure:
Profit and Loss A/c 3,60,000 Preliminary expenses 25,000
Provisions:
Creditors 1,68,000
40,33,750 40,33,750
Problem - 13
S and M had been carrying on business independently, agree to amalgamate and form a company N Ltd.
with an authorised Share capital of Rs. 2,00,000 divided into 40,000 equity shares of Rs. 5 each.
On 31st December, 2008, the respective Balance Sheets of S and M were as follows:
Particulars S M
Rs. Rs.
Fixed Assets 3,17,500 1,82,500
Current Assets 1,63,500 83,875
4,81,000 2,66,375
Less : Current liabilities 2,98,500 90,125
1,82,500 1,76,250
Additional Information :
Revalued figures of Fixed and Current assets were as follows :
Particulars S M
Fixed Assets 6,55,000 2,95,000
Current Assets 1,49,750 78,875
The debtors and creditors include Rs. 21,675 owed by S to M.
The purchase consideration is satisfied by issue of the following shares and debentures:
i. 30,000 equity shares of N Ltd. to S and M in the proportion to the profitability of their respective
business based on the average net profit during the last three years which were as follows:
Particulars S M
2006 Profit 2,24,788 1,36,950
2007 (Loss) / Profit (1,250) 1,71,050
2008 Profit 1,88,962 1,79,500
ii. 15% debentures in N Ltd. at par to provide an income equivalent to 10% return on capital employed
in their respective business as on 31st December 2008 after revaluation of assets.

107
1. Compute the amount of debentures and shares to be issued to S and M.
2. A Balance sheet of N Ltd. showing the position immediately after amalgamation.
Solution :
Part I : Calculation of shares to be issued and No. of debentures to be issued :
WN # 1 : Calculation of average profit for the past 3 years.
S =
2,24,788 – 1,250 + 1,88,962
3
= Rs. 1,37,500/-
M =
1,36,950 + 1,71,050 + 1,79,500
3
= Rs. 1,62,500/-
WN # 2 : Determination of shares to be distributed to each company
Distribution : 30,000 Equity Shares of N Ltd. are to be distributed between the S Ltd. and M Ltd. in their
profitability ratio. i.e. 1375 : 1625
Shares to be Issued to S Ltd. = 1,375
3,000
x 30,000 = 13,750 Shares.
Shares to be Issued to M Ltd. = 1,625
3,000
x 30,000 = 16,250 Shares.
WN # 2 : Calculation of the number of debentures to be issued :
i. Calculation of 10% return of capital employed :- (at revalued figures)
Particulars S M
a. Fixed Assets 6,55,000 2,95,000
b. Current Assets 1,49,750 78,875
8,04,750 3,73,875
c. Current liabilities (2,98,500) (90,125)
d. Capital employed 5,06,250 2,83,750
e. Return on capital employed @ 10% 50,625 28,375
f. Number of 15% debenture to be issued in order to get
same return of Rs. 50,625/- and Rs. 28,375/- 3,37,500 1,89,167
respectively.
( 50,625
15%
,
28,375
15% )
= 1,89,200
(rounded of in
nearest
Multiples of
Rs.100

108
WN # 3 : Calculation of Purchase consideration and Goodwill or Capital reserve from the
amalgamation:
(Rs.)
Particulars S M Total
I. Purchase Consideration:
a. Value of Equity Shares (WN # 1) 68,750 81,250 1,50,000
(13,750 x 5; 16,250 x 5)
b. 15% Debentures (WN # 2) 3,37,500 1,89,200 5,26,700
c. Total 4,06,250 2,70,450 6,76,700
II. Net Assets taken over:
a. Fixed assets (Revalued Figures) 6,55,000 2,95,000 9,50,000
b. Add: Current assets (*78,875 - 21,675 1,49,750 57,200* 2,06,950
Inter Co. Owings)
c. Less: Current liabilities (**2,98,500 -
21,675 Inter Co. Owings) (2,76,825)** (90,125) (3,66,950)
d. Total (a+b+c) 5,27,925 2,62,075 7,90,000
III. Goodwill / (Capital reserve) (I - II) (1,21,675) 8,375 (1,13,300)
Balance Sheet of N Ltd. as on 31st Dec. 2008
Rs. Rs.
Share capital : Fixed Assets 9,50,000
Authorised : Current Assets 2,06,950
40,000 Equity Shares of Rs. 5 each 2,00,000
Issued and Subscribed :
30,000 Equity Shares of Rs. 5 each 1,50,000
fully paid up
(All the above shares are issued for a
consideration other than cash persuant
to contract of Amalgamation)
Reserves and surplus :
Capital reserve (WN # 3) 1,13,300
Secured Loans :
15% Debentures (WN # 2) 5,26,700
Current liabilities and Provision :
Current liabilities 3,66,950
Provisions —
11,56,950 11,56,950

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Problem - 14
The following are the summarised Balance sheets of three undertakings as on 31st March, 2009.
Particulars B Ltd. E Ltd. D Ltd.
Rs. Rs. Rs.
Freehold premises at cost 5,00,000 1,80,000 1,20,000
Other Fixed assets at cost less depreciation 15,80,000 3,70,000 2,00,000
Stock in trade 13,50,000 1,80,000 1,10,000
Sundry Debtors 12,30,000 4,30,000 2,10,000
Cash at Bank. 2,10,000 1,20,000 55,000
48,70,000 12,80,000 6,95,000
Equity Shares of Rs. 10 each 30,00,000 5,00,000
Capital: D Ltd. 4,15,000
Reserves 12,20,000 2,60,000
Creditors 6,50,000 5,20,000 2,80,000
48,70,000 12,80,000 6,95,000
It was decided that on 31st March 2009 would acquire the whole of the Share capital of E Ltd. and the
goodwill, Fixed assets and stocks of D, the purchase consideration in both cases being discharged by the
issue of equity shares in B Ltd., valued at Rs. 12.50 per share. The terms agreed upon were the following:
1. The Fixed assets were to be taken at the value placed on them by an independent valuer.
2. The stocks of D were to be reduced by Rs. 10,000 because of obsolete items. Stocks of ELtd. were to
be taken at their book value.
3. In the case of E Ltd. debtors and creditors to be taken at book value less Rs. 30,000 for debtor and Rs.
15,000 for creditor.
4. Goodwill was to be valued at two years’ purchase of the average proﬁts of the last three years subject
only to the following adjustments.
In the case of E Ltd.
i. The Director’s remuneration charged in each year was to be reduced by Rs. 25,000; and
ii. The depreciation charged in each year on Other Fixed assets was to be substituted with
depreciation on those assets calculated at 10% of cost on straight line basis.
In the case of D:
i. Notional expenses of Rs. 50,000 p.a. in total, are to be provided; and
ii. Rs. 20,000 being exceptional items of expense was to be added back to the profits in 2007.

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Other Information :
Particulars B Ltd. E Ltd. D Ltd.
Rs. Rs. Rs.
i. Depreciation on Other Fixed assets till date 6,20,000 2,50,000 1,00,000
ii. Independent valuation as on 31st March 2009;
Freehold premises 6,00,000 2,50,000
Other Fixed assets 3,30,000 2,10,000
iii. Profits for the last three years;
2006-07 90,000 90,000
2007-08 1,21,000 65,000
2008-09 1,31,060 95,000
Depreciation charged on other Fixed assets of E Ltd. was Rs. 54,500 in 2006-07, Rs. 44,580 in 2007-08 and
Rs. 45,360 in 2008-09.
iv. Particulars of other Fixed assets at 31 st March. 2009 at cost were :
Before 31 st March 2007 6,00,000
Purchase on 1st April, 2007 1,10,000
Disposed of on 1 st April 2008 80,000
(acquired on 1 April 1996)
You are required to prepare:
i. a statement showing the shares to be issued for the acquisition; and
ii. the Balance sheet of B Ltd. at on April 2009.
ignore taxation.
Solution:
Part - (i) Purchase consideration
WN # 1 : Calculation of goodwill
Particulars E Ltd. D Ltd.
Rs. Rs.
Total Profits for three years
2006-07 90,000 90,000
2007-08 1,21,000 65,000
2008-09 1,31,060 95,000
3,42,060 2,50,000
Add: Directors fees 75,000
Less: Additional Depreciation* (49,560) –
Add: Exceptional item for Exp. 20,000
Less : Notional salaries for partners each Rs.50,000/p.a. (1,50,000)
Total 3,67,500 1,20,000
No. of years 3 3
Average Profits 1,22,500 40,000
Goodwill (2 years purchase) [(h) × 2] 2,45,000 80,000

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* Calculation of Additional Depreciation :
Year 2006 2007 2008 Total
Depreciation to be charged 60,000 71,000 63,000
Less: Depreciation already charged (54,500) (44,580) (45,360)
Additional depreciation to be charged 5,500 26,420 17,640 49,560
Statement showing shares to be issued to E Ltd. and D Ltd.
Particulars E Ltd. D Ltd.
Rs. Rs.
a. Fixed assets :
i. Freehold premises 6,00,000 2,50,000
ii. Others 3,30,000 2,10,000
iii. Goodwill (WN # 1) 2,45,000 80,000
b. Current assets :
i. Stock in trade 1,80,000 1,00,000
ii. Sundry Debtors 4,00,000 –
iii. Cash at Bank 1,20,000 –
18,75,000 6,40,000
c. Less: Sundry creditors (5,05,000) –
d. Net asset value 13,70,000 6,40,000
e. Share Price 12.50 12.50
f. No. of Shares to be issued (d × e) 1,09,600 51,200
13,70,000 6,40,000
(12.50) (12.50)
Balance Sheet of B Ltd. as at 31st March 2009
Share capital : Fixed assets :
4,60,800 shares of Rs. 10 each Goodwill 80,000
fully paid Freehold Premises 7,50,000
(of the above, 1,60,800 shares are 46,08,000 Other Fixed assets 17,90,000
being issued for consideration Investments 13,70,000
other than cash)
Reserves and surplus : (Fully paid shares in
General reserves 12,20,000 Subsidiary Co.)
Securities Premium 4,02,000 Current assets:
Current liabilities and Provisions : Stock in trade 14,50,000
Creditors 6,50,000 Sundry Debtors 12,15,000
Cash at Bank 2,25,000
68,80,000 68,80,000

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Problem - 15
On 1st April, 2008 Hero Ltd. was incorporated with an authorised capital of Rs.1,000 lakhs. It issued to its
promoters equity capital of Rs. 50 lakhs which was paid for in full. On that day it purchased the running
business of Vijay Ltd. for Rs. 200 lakhs and allotted at par equity capital of Rs. 200 lakhs in discharge of
the consideration. The net assets taken over from Vijay Ltd. were valued as follows : Fixed assets Rs. 150
lakhs, inventory Rs. 10 lakhs, customers’ dues Rs. 70 lakhs and Creditors Rs. 30 lakhs.
Hero Ltd. carried on business and the following information is furnished to you:
a. Summary of cash/bank transactions for year ended 31 st March, 2009.
Rs. in lakhs
Equity capital raised :
Promotors (as shown above) 50
Others 250 300
Collections from customers 4,000
Sale proceeds of Fixed assets (cost Rs.18 crores) 20
Less : 4,320
Payment to suppliers 2,000
Payment for employees 700
Payment for expenses 500 3,200
Investments in Upkar Ltd. 100
Payments to suppliers of Fixed assets :
Instalment due 600
Interest 50 3,200
Tax payment 270
Dividend 50
Closing cash/bank balance 50
1,320
b. On 31st March, 2009 Hero Ltd.’s assets and liabilities were.
Rs. in lakhs
Inventory at cost 15
Customers’ dues 400
Prepaid expenses 10
Advances to suppliers 40
Amounts due to suppliers of goods 260
Amounts due to suppliers of Fixed assets 750
Outstanding expenses 30
c. Depreciation for the year under :
i. Companies Act, 1956 Rs. 180 lakhs
ii. Income tax Act, 1961 Rs. 200 lakhs

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d. Provide for tax at 35% of “total income”. There are no disallowables for the purpose of income taxation,
provision for tax is to be rounded off.
i. Revenue statement for the year ended 31st March, 2009 and
ii. Balance Sheet as on 31st March, 2009 from the above information.
Solution:
WN # 1 : Computation of purchase consideration
Rs. in lakhs
Fixed Assets 150
Inventory 10
Customer’s Dues 70
Less: Creditors (30)
Purchase consideration 200
IN THE BOOKS OF HERO LTD.
Rs. in lakhs
1. For Business Purchase :
To Liquidator of Vijay Ltd. A/c 200
2. Incorporation of assets and liabilities taken over :
Inventory A/c Dr. 10
Customer’s dues A/c Dr. 70
To Creditors A/c 30
Note : There is no goodwill or Capital reserve arising.
3. Discharge of Consideration :
Liquidator of Vijay Ltd. A/c Dr. 200
To Equity Share Capital A/c 200
Debtors / Customers Account
Dr. Cr.
Particulars Amount Particulars Amount
To Business Purchase 70 By Bank 4,000
To Sales [balance c/d] 4,330 By Balance c/d 400
4,400 4,400

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Suppliers Account
Dr. Cr.
To Bank * 1,960 By Business Purchase 30
To Balance c/d 260 By Purchase [balance c/d] 2,190
2,220 2,220
Amount 2,000
Less: Advances 40
1,960
Rs. in lakhs
Dr. Fixed assets Accounts (Suppliers) Cr.
To Bank A/c 650 By Fixed assets A/c (Bal. fig.) 1,350
To Balance c/d 750 By Interest A/c 50
1,400 1,400
Rs. in lakhs
Dr. Fixed assets Account Cr.
To Business Purchase A/c 150 By Bank A/c 20
To Profit and Loss A/c 2 By Balance c/d 1,482
To Suppliers A/c 1,350
1,502 1,502
Rs. in lakhs
Dr. Expenses Account Cr.
To Bank A/c 500 By Profit and Loss a/c 520
To Outstanding expenses A/c 30 (Balancing Figure)
By Balance c/d (prepaid) 10
530 530
Revenue Statement for the year ended 31.3.09
Rs. in lakhs
Particulars Amount Amount
a) Sales 4,330
b) Less: Expenditure
Stock taken over 10
Add: Purchases 2,190
2,200
Less : Closing Stock 15
Inventory consumed 2,185
Employee cost 520

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Expenses 700 (3,405)
Profit before Interest depreciation and Tax 925
Less: Interest (50)
Profit before depreciation and Tax 875
Less: Depreciation as per Companies Act, 1956 (180)
695
Add: Profit on sale of Fixed assets 2
Profit before tax 697
Less: Provision for tax * 236.25
Profit After Tax 460.75
Less: Dividend (50)
Balance Carried forward to Balance Sheet. 410.75
* Calculation of Tax provision
Particulars Rs. in lakhs
Profit before Tax. 697
Less: Profit and Loss on sale of Fixed assets (2)
Add: Depreciation as per Companies Act 180
Less: Depreciation as per IT Account (200)
Adjusted Profit before tax 675
Less: Tax @ 35% 236.25
438.75
Balance sheet of Hero Ltd. as on 31.3.09
Lakhs Lakhs
Equity Share capital: Fixed assets 1,482
Authrised Share capital 1,000 Less: Depreciation (180) 1,302
Issued, subscribed and fully Investments in Upkar Ltd.
paid-up capital Current assets, Loans and
Existing 300 + Issued 200 Advances:
(of the above, shares worth 500 Inventories 15
Rs.200 crores were issued Customers Dues 400
for a consideration other Cash and Bank 50
than cash) Advances to Suppliers 40
Reserves and surplus : Prepaid Expenses 10
Profit and Loss A/c 410.75 Advance tax 270 785
Amount due to suppliers of 750
Fixed assets
Provisions :
Creditors 260
Outstanding expenses 30
Provision for tax 236.25 526.25
2,187 2,187

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Problem - 16
AX Ltd. and BX Ltd. decided to amalgamate their business with a view to a public share issue. A holding
company, MX Ltd. is to be incorporated on 1st May 2009 with an authorised capital of Rs. 60,00,000 in
Rs. 10 ordinary shares. The company will acquire the entire ordinary Share capital of AX Ltd. and BX Ltd.
in exchange for an issue of its own shares.
The consideration for the acquisition is to be ascertained by multiplying the estimated profits available to
the ordinary shareholders by agreed price earnings ratio. The following relevant figures are given :
AX Ltd. BX Ltd.
Rs. Rs.
Issued Share capital
Ordinary shares of Rs. 10 each 30,00,000 12,00,000
6% Cumulative Preference shares of Rs. 100 each – 10,00,000
5% Debentures, redeemable in 2013 8,00,000
Estimated annual maintainable profits, before deduction of 6,00,000 2,40,000
debenture interest and taxation
Price / Earning Ratio 15 10
The shares in the holding company are to be issued to members of the subsidiaries on 1st June 2009, at a
premium of Rs. 2.50 per share and thereafter these shares will be marketable on the Stock Exchange.
It is anticipated that the merger will achieve significant economics but will necessitate additional working
capital. Accordingly, it is planned that on 31st December, 2009, MX Ltd. will make a further issue of
60,000 ordinary shares the public for cash at the premium of Rs. 3.75 a share. These shares will not rank
for dividends until 31st December, 2009.
In the period ended 31st December, 2009, bank overdraft facilities will provide funds for the payment of
MX Ltd. of preliminary expenses estimated at Rs. 50,000 and management etc. expenses estimated at Rs.
6,000.
It is further assumed that interim dividends on ordinary shares, relating to the period from 1st June to
31st December, 2009 will be paid on 31st December 2009 by MX Ltd. at 3% by AX Ltd. at 5% and by BX
Ltd. at 2%.
You are required to project, as on 31st December 2009 for MX Ltd., (a) the Balance Sheet as it would appear
immediately after fully subscribed share issue, and (b) the Profit and Loss Account for the period ending
31st December, 2009.
Assume the rate of corporation tax to be 40% you can make any other assumption you consider relevant.

117
Solution :
WN # 1 : Computation of Purchase Consideration
AX Ltd. BX Ltd.
a. Earnings before Interest and Tax (EBIT) 6,00,000 2,40,000
b. Less: Interest – (40,000)
c. Earnings before tax (EBT) 6,00,000 2,00,000
d. Less: Tax @ 40% (2,40,000) (80,000)
e. Earnings after tax (EAT or PAT) 3,60,000 1,20,000
f. Less: Preference Dividend – (60,000)
g. Profit for Equity Shareholders 3,60,000 60,000
h. P/E Ratio 15 10
i. Total Consideration (Profit × P/E ratio) 54,00,000 6,00,000
j. Share capital (432000 × 10) 43,20,000 48000 × 10 4,80,000
k. Share Premium (432000 × 2.5) 10,80,000 48000 × 2.5 1,20,000
Projected Profit and Loss Account for the period ending on 31st Dec. 2009
a. Dividend Received from Subsidiaries
AX Ltd. 30,00,000 × 5% 1,50,000
BX Ltd. 12,00,000 × 2% 24,000
1,74,000
b. Less: Management Expense (6,000)
Less: Dividend @ 3.5% on 48,00,000 1,68,000
(43,20,000 + 4,80,000) (1,68,000)
c. Projected profit Nil
WN # 2 :
Bank Account
Dr. Cr.
To Shares issued 8,25,000 By Preliminary expenses 50,000
(60,000 @ 13.75) By Management expenses 6,000
To Dividend Received - AX Ltd. 1,50,000 By Dividend paid 1,68,000
- BX Ltd. 24,000 By Balancec/d 7,75,000
9,99,000 9,99,000

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Projected Balance Sheet of MX Ltd. as on 31.12.09
Share capital Investments:
[Authorised 6,00,000 Equity Subsidiaries
Share of Rs. 10 each] 60,00,000 Shares at Cost 60,00,000
Issued Capital Bank 7,75,000
4,80,000 x 10 48,00,000
60,000 x 10 6,00,000 54,00,000
Share Premium
RX Ltd. 10,80,000
PX Ltd. 1,20,000
Others (60,000 x 3.75) 2,25,000
14,25,000
Less : Preliminary Expenses (50,000) 13,75,000
67,75,000 67,75,000
Note: The preliminary expenses are to be written off against securities premium A/c.
III. Purchasing Company holding shares in Selling Company
Problem - 17
It has been decided that P Ltd. will absorb the entire undertaking of S Ltd. and T Ltd. as on 1.4.2009. The
outside shareholders in the latter companies are to be issued equity shares in PLtd. on the basis of an agreed
issue price of Rs.200 per share. For this purpose, the interests of such shareholders are to be determined
according to the intrinsic values of the shares of the respective companies. N Ltd. is a subsidiary of T Ltd.
and is also to be merged into P Ltd. appropriately.
The Balance Sheets of the companies as at 31.3.2009, stood as under :
(Rs. Lakhs)
P S T N
Sources of Funds:
Share capital
Equity shares Rs. 100 each 1,500 1,000 800 400
Reserves 2,000 540 702 400
Loans 1,600 900 1,000 700
Total 5,100 2,440 2,502 1,500

119
(Rs. Lakhs)
P S T N
Application of Funds :
Land 200 100 50 10
Buildings 500 400 100 200
Machinery 1,500 800 500 500
Other Fixed Assets 400 100 200 50
Investments
4 lakhs shares of S 500
2 lakhs shares of T 300
4 lakhs shares of N - - 400
Others 100 - -
Net Current Assets 1,600 1,040 1,252 740
Total 5,100 2,440 2,502 1,500
For the purpose of the scheme, it is agreed to give effect to the following value
appreciations of the assets of the companies to be absorbed.
Land - 100%
Buildings - 50%
Machinery - 20%
In order to obtain the consent of the creditors of T Ltd., it becomes necessary to accept a claim of Rs.20 lakhs
hitherto classiﬁed as contingent. 60% of the claim is accepted by T Ltd. and the balance is to be settled by
P Ltd.
i. Compute the number of shares to be issued by P Ltd. to eligible outsiders
ii. Show journal entries.
iii. Draft the Balance sheet of P Ltd. after the absorption.
Solution :
Part 1. Calculation of Purchase consideration.
WN # 1 : Calculation of Intrinsic value of shares.
Rs. in Lakhs.
S T N
a. Land (↑100%) 200 100 20
b. Building (↑50%) 600 150 300
c. Machinery (↑20%) 960 600 600
d. Others Fixed Assets 100 200 50
e. Net current Asset 1040 1252 740

120
S T N
f. Investment in N Ltd. (100% subsidiary company) — 1010 —
[4 Lakhs shares × Rs. 252.50] 2900 3312 1710
g. Loans (900) (1000) (700)
h. Contingent loan (60% of 20) — (12) —
i. Value of Net Assets 2,000 2,300 1010
j. No. of shares Outstanding 10 8 4
k. Intrinsic value per share (i/j) 200 287.50 252.50
WN # 2 : Purchase consideration
Lakhs.
Particulars S T
a. No. of shares outstanding 10 8
b. Less: Already held by P Ltd. (4) (2)
c. No. of shares held by outsiders 6 6
d. Value payable at intrinsic value [WN # 2(c)xWN # 1 (k)] Rs. 1,200 Rs. 1,725
e. No. of shares to be issued at value of Rs. 200 6 8.625
f. Payment to be made for T Ltd. is : Shares – 8
Cash (for fractional shares) 0.625 x 200
= Rs. 125/-
Part II - In the books of purchasing Co. P Ltd.
A. Take over of S Ltd.
(Rs. in Lakhs)
a. For Purchase Consideration Due:
Business Purchase A/c (6×200) Dr. 1,200
To Liquidator of S Ltd’s. A/c 1,200
b. For Assets and liabilities takeover :
Land A/c Dr. 200
Building A/c Dr. 600
Machinery A/c Dr. 960
Other Fixed Assets A/c Dr. 100

121
To Capital Reserve A/c (balancing ﬁgure) 300
To Loans A/c 900
To Business purchase A/c 1,200
To Investments in S Ltd 500
c. Discharge of consideration
Liquidator of S Ltd. A/c Dr. 1,200
To Equity Share Capital A/c (6 x 100) 600
To Securities Premium A/c (6 x 100) 600
B. Take over of T Ltd.
Rs. in Lakhs
To Liquidator of T Ltd. A/c 1,725
b. For takeover of assets and liabilities:
Land A/c Dr. 120
Building A/c Dr. 450
Other Fixed Assets A/c Dr. 250
To Capital Reserve A/c (balancing ﬁgure) 267
To Loans A/c 1712
To Contingent loan payable A/c 8
To Business purchase A/c 1725
To Investments in T Ltd. A/c 300
c. Settlement of contingent liability:
Contingent liability payable A/c Dr. 8
To Net current asset (cash) 8

122
Rs. in Lakhs
d. For discharge of consideration:
Liquidator of T Ltd. A/c Dr. 1,725
To Equity Share Capital A/c (8 × 100) 800
To Securities Premium A/c (8 × 100) 800
To Cash A/c 125
Amalgamated Balance Sheet of P Ltd. as at 1st April 2009
Rs. in lakhs
Particulars Amount
Source of Funds:
Authorised, issued subscribed and fully paid up equity shares of Rs. 10 each
Equity Share capital (1,500 + 600 + 800.00) 2,900
[Out of the above 6 lakhs shares to S Ltd. and 8 Lakhs shares to
T Ltd. were issued for consideration other than cash]
Reserves and surplus:
Capital Reserve (300 + 267) 567
Securities premium (600 + 800) 1400
Other Reserves 2,000
Loans (1600 + 900 + 1012 + 700) 4,212
Total 11,079
Application of Funds :
Fixed assets :
Land (200 + 200 + 100 + 20) 520
Building (500 + 600 + 150 + 300) 1,550
Machinery (1,500 + 960 + 600 + 600) 3,660
Other Fixed assets (400 + 100 + 200 + 50) 750
Investments 100
Net Current assets (1,600 + 1,040 + 1,252 + 740 – 8 – 125) 4,499
Total 11,079
Problem - 18
The Balance Sheets of Sweet Ltd. and Salt Ltd. as on 31.03.08 were as follows:
Balance Sheet as on 31.03.08
Liabilities Sweet Ltd. Salt Ltd. Assets Sweet Ltd. Salt Ltd.
(Rs.) (Rs.) (Rs.) (Rs.)
Equity Share 8,00,000 3,00,000 Building 2,00,000 1,00,000
capital (Rs. 100) Machinery 5,00,000 3,00,000

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(Rs.) (Rs.) (Rs.) (Rs.)
10% Preference - 2,00,000 Furniture 1,00,000 60,000
Share capital Investment:
(Rs. 100) 600 shares 60,000 —
of Small Ltd.
General Reserve 3,00,000 1,00,000 Stock 1,50,000 1,90,000
Proﬁt and Loss A/c 2,00,000 1,00,000 Debtors 3,50,000 2,50,000
Creditors 2,00,000 3,00,000 Cash and Bank 90,000 70,000
Preliminary 50,000 30,000
Expenses
15,00,000 10,00,000 15,00,000 10,00,000
Sweet Ltd. has taken over the entire undertaking of Salt Ltd. on 30.09.08, on which date,
the position of Current assets except cash and Sweet Ltd Salt Ltd
bank balances and Current liabilities were as (Rs.) (Rs.)
follows:
Stock 1,20,000 1,50,000
Debtors 3,80,000 2,50,000
Creditors 1,80,000 2,10,000
Proﬁts earned for the half year ended on 30.09.08 after charging depreciation as 5% on building, 15% on
machinery and 10% on furniture, are:
Sweet Ltd. Rs. 1,02,500
Salt Ltd. Rs. 54,000
On 30.08.08 both companies have declared 15% dividend for 2007-08.
Goodwill of Salt Ltd. has been valued at Rs. 50,000 and other Fixed assets at 10% above Sweet their book
values on 31.03.08. Preference shares of Salt Ltd. are to be allotted 10%. Preference Shares of Sweet Ltd.
and Equity shareholders of Salt Ltd. are to receive requisite number of equity shares of Sweet Ltd. valued
at Rs. 150 per share on satisfaction of their claims.
Show the Balance Sheet as of 30.09.08 assuming absorption is through by that date.
Solution :
Part. I
Balance Sheet of Sweet Ltd. & Salt Ltd. as on September 30, 2008
(Rs.) (Rs.) (Rs.) (Rs.)
Equity Share 8,00,000 3,00,000 Fixed Assets:
capital Rs. 100 each Building 1,90,000 95,000
Machinery 4,25,000 2,55,000
10% Preference — 2,00,000 Furniture 90,000 54,000
Share capital Investment 60,000 —

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(Rs.) (Rs.) (Rs.) (Rs.)
Reserves and Current assets
surplus Loans and
General Reserve 3,00,000 1,00,000 Advances:
Profit and Loss A/c 1,91,500* 1,09,000*
Current liabilities Stock 1,20,000 1,50,000
and Provisions Debtors 3,80,000 2,50,000
Creditors 1,80,000 2,10,000 Cash (bal. fig) 1,56,500 85,000
Miscellaneous
Expense not
written off:
Preliminary Exp. 50,000 30,000
14,71,500 9,19,000 14,71,500 9,19,000
* Calculation of Profit & Loss Account Balances
Particulars Sweet Ltd. Salt Ltd.
Opening balance 2,00,000 1,00,000
Add.Profit for half year 1,02,500 54,000
Less: Equity dividend (1,20,000) (45,000)
Add: Dividend income on 600 Equity Shares 9,000 –
Total 1,91,500 1,09,000
Assumptions:
a) Preference dividend has already been paid
b) Half year profit given is “Trading Profit” and does not include dividend income.
c) The entire dividend income is post-acquisition (ie. investment has been acquired prior to 1.4.08)
Part II
Purchase Consideration - Net Assets Method
Rs. Rs.
Goodwill 50,000
Building 1,10,000
Machinery 3,30,000
Furniture 66,000
Stock 1,50,000
Debtors 2,50,000
Cash 851000 10,41,000
Less: Creditors (2,10,000)
Purchase Consideration 8,31,000

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Analysis of Purchase Consideration:
Purchase Consideration = Rs. 8,31,000
Preference Shareholders Net Assets pertaining to Equity
Rs. 2,00,000 Shareholders. Rs. 6,31,000 (Bal. ﬁg)
Issue Proportionate Net Assets pertaining
10% preference to outside share holders (80%)
shares at par. Rs. 5,04,800
(80% of Rs.6,31 ,000)
3,365 Equity shares at Cash for fractions
Rs.150 each Rs.50
Total consideration summary :
Particulars Amount
Rs.
i) Preference Share capital at par 2,00,000
ii) 3,365 Equity shares @ Rs. 150 per share 5,04,750
iii) Cash 50
Total 7,04,800
Part - III : In the books of Sweet Ltd.
Journ entries
To Liquidator of Salt Ltd. 7,04,800
2. For Assets of Libilties taken over:
Building A/c Dr. 1,10,000
Machinery A/c Dr. 3,30,000
Furniture A/c Dr. 66,000

126
Debtors A/c Dr. 2,50,000
Cash A/c Dr. 85,000
To Investment in Salt Ltd. A/c 60,000
To Capital Reserve A/c 16,200
3. Discharge of Purchase Consideration
Liquidator of Salt Ltd. A/c Dr. 7,04,800
To 10% Preference Share Capital A/c 2,00,000
To Securities Premium A/c 1,68,250
To Bank/Cash A/c 50
Amalgamated Balance Sheet of Sweet Ltd. as on 30.09.2008
Rs. Rs. Rs.
Share Capital: 11,36,500 Fixed Assets:
113650 Equity Shares of Building 2,00,000
Rs.10 each Less: Depreciation 10,000
(Out of which 33650 share are 1,90,000
allotted for consideration Add: Taken over 1,10,000 3,00,000
other than cash)
10% Preference Share 2,00,000 Machinery 5,00,000
capital of Rs. 100 each Less: Depreciation 75,000
(The above shares are Add: Taken Over 3,30,000 7,55,000
alloted for consideration
other than cash) Furniture 1,00,000
Reserves and surplus Less: Depreciation 10,000
Capital Reserve 16,200 Add: Taken over 66,000 1,56,000
Securities Premium 1,68,250 Current assets,
General Reserve 3,00,000 Loans and Advances:
Proﬁt and Loss A/c 1,91,500 Stock 2,70,000
Current liabilities and Sundry Debtors 6,30,000
Provisions Cash and Bank 2,41,450
Sundry creditors 3,90,000 Miscellaneous Expenditure
Preliminary Exp. 50,000
24,02,450 24,02,450

127
Problem - 19
The Balance Sheets of S Ltd. and H Ltd. as on 31.3.09 were as follows.
(Rs. in Lakhs)
Liabilities S Ltd. H Ltd.
Equity Share capital 80 25
Reserves and surplus 400 75
10% 25,000 Debentures of Rs. 100 each – 25
Other Liabilities 120 –
600 125
Assets
Fixed assets at cost 200 75
Less: Depreciation 100 100 50 25
Investments in H Ltd.
2 Lakhs Equity shares of Rs. 10
each at cost 32
10% 25,000 debentures of Rs. 100
each at cost 24 56
Current assets 800 300
Less: Current liabilities (356) 444 (200) 100
600 125
In a scheme of absorption duly approved by the Court, the assets of ‘H’ Ltd. were taken over at an agreed
value of Rs. 130 lakhs. The liabilities were taken over at par. Outside shareholders of ‘H’ Ltd. were allotted
equity shares in S Ltd. at a premium of Rs. 90 per share in satisfaction of other claims in ‘H’ Ltd. for purposes
of recording in the books of ‘S’ Ltd. Fixed assets taken over from ‘H’ Ltd. were revalued at Rs. 40 lakhs.
The scheme was put through on 1st April, 2009.
a. Journal Entries in the books of ’S’ Ltd.
b. Show the balance of ‘S’ Ltd. after absorption of ‘H’ Ltd.

128
Solution :
WN # 1 : Purchase consideration of shares to be issued
Purchase
Consideration
Rs. 130 lakhs
Debentures Equity Share holders
Rs. 25 lakhs Rs. 105 lakhs
Worth of shares belonging to S Ltd. Amount Pertaining to
2 lakhs outsiders
2.5 lakhs
×105 = Rs. 84 lakhs
105-84 = Rs. 21 lakhs*
‘Number of shares to be issued to
outside shareholders @ 10/
each at a premium of Rs. 90/- = Rs. 21,00,000
100
= 21,000 Shares.
a) Part - II Journals in Books of S Ltd.
• Nature of Amlagamation - Purchase Method
(Rs. in lakhs)
i. For Purchase Consideration Due :
To Liquidator for H Ltd.” A/c 21
(Being the purchase consideration payable to liquidator
of H Ltd. for business purchase)
ii. For assets and liabilities taken over:
Current Assets A/c Dr. 300
To Current Liabilities A/c 200

129
To Liability for 10% Debentures A/c 25
To Investment in H Ltd. A/c 32
To Capital Reserve (balancing ﬁgure) 62
(Being the assets and liabilities taken over from H Ltd)
iii. Discharge of purchase consideration:
Liquidator of H Ltd. A/c Dr. 21
To Equity Share Capital A/c 2.10
To Securities Premium A/c 18.90
(Being the allotment of 21 lakhs equity shares of Rs. 10
each to outside shareholders of H Ltd. at a premium of
Rs.90 per share.)
iv. Cancellation of Liability of Debentures:
10% Debenetures A/c Dr. 25
To Investments in Debentures A/c 24
(Being the cancellation of debentures of H Ltd. )
b)
Balance Sheet of S Ltd. as on 1st April, 2009
(Rs. in lakhs)
Share capital: Fixed assets
(8.21 lakhs equity shares of 82.10 (100+40) 140.00
Rs. 10 each) Current assets and
(Of the above shares, 21,000 Loan and advances
equity share are allotted as fully Current assets
paid up for consideration other (800+300) 1100.00
than cash)
Reserves and Surplus:
As per last Balance Sheet 400.00
Capital Reserve (62+1) 63.00
Securities Premium A/c 18.90
Other liabilities 120.00
Current liabiltiies and provisions :
Current liabilities
(356 + 200) 556.00
1,240.00 1,240.00
Note: It has been assumed that Current assets have been taken over by S Ltd. at their book value.

130
Problem - 20
The Balance sheet of H Ltd. as on 31.3.08:
(Figures in Rs. lakhs)
Equity Share Capital 4.00 Fixed Assets less depreciation 6.00
(in equity shares of Rs. 10 each) to date
10% Preference Share Capital 3.00 Stock and debtors 5.30
General Reserve 1.00 Cash and Bank 0.70
Profit & Loss Account 1.00
Creditors 3.00
12.00 12.00
M Ltd. another existing company holds 25% of equity Share capital of H Ltd. purchased at Rs.10 per
share.
It was agreed that M. Ltd. should take over the entire undertaking of H Ltd. on 30.9.08 on which date the
position of Current assets (except cash and bank balances) and creditors was as follows.
Stock and debtors 4 lakhs
Creditors 2 lakhs
Profits earned for half year ended 30.9.08 by H Ltd. was Rs. 70,500 after charging depreciation of Rs. 32,500 on
fixed assets. H Ltd. declared 10% dividend for 2007-08 on 30.8.08 and the same was paid within a week.
Goodwill of H Ltd. was valued at Rs. 80,000 and block assets were valued at 10% over their book value
as on 31.3.08 for purposes of take over. Preference shareholders of H Ltd. will be allotted 10% preference
shares of Rs. 10 each by M Ltd. Equity share holders of H Ltd. will receive requisite number of equity shares
of Rs. 10 each from M Ltd. valued at Rs. 10 per share.
i. Compute the purchase consideration.
b. Explain, how the Capital reserve or goodwill, if any, will appear in the balance sheet of M Ltd. after
absorption.

131
Solution :
WN # 1 : Calculation of Cash and Bank Balances as on 30th September 2008
Balance Sheet of H Ltd. as at 30.09.08
Equity Share capital Rs Block Assets 6,00,000 Rs.
(40,000 equity shares of Rs. 10 4,00,000 Less: Depreciation (32,500) 5,67,500
each)
10% Preference Share capital 3,00,000 Stock and Debtors 4,00,000
Reserves and surplus Cash and Bank (balancing 1,33,000
General Reserve 1,00,000 figure)
Profit and Loss A/c* 1,00,500
Creditors 2,00,000
11,00,500 11,00,500
Profit & Loss Account
Particulars Amount
Opening Balance 1,00,000
Add: Half year profit 70,500
Less: Preference dividend @ 10% (30,000)
Less: Equity dividend @ 10% (40,000)
Closing balance 1,00,500
a. Purchase Consideration - Net Assets Method
Fixed assets 6,60,000
Stock and Debtors 4,00,000
Cash and Bank 1,33,000
Goodwill 80,000 12,73,000
Less: Creditors (2,00,000)
Net Assets Taken over 10,73,000

132
Net Assets Rs. 10,73,000
Preference Shareholders Net Assets pertaining to
Rs. 3,00,000 Equity shareholders
Rs.7,73,000
Satisﬁed by issuing 10% Proportionate net assets for
preference share at par the outside shareholders(75%)
5,79,750
Total Purchase Consideration
Particulars Amount
Rs.
a. 10% Preference Share Capital 3,00,000
b. Equity Share Capital (Outsiders) 5,79,750
c. Total 8,79,750
Calculation of Capital Reserve
Particulars Amount
Rs.
a. Net Assets takenover 10,73,000
b. Less:
i) Preference shares to be alloted 3,00,000
ii) Equity shares to be allotted 5,79,750
iii) Cost of Investments 1,00,000 (9,79,750)
c. Capital Reserve 93,250
Balance sheet of M Ltd. as on 30th September 2008 (Extracts)
Capital Reserve 93,250
Less: Goodwill 80,000 13,250

133
Problem - 21
The summarised Balance sheets of A Ltd. and its subsidiary B Ltd. as on 31.3.2009 are as follows:
A Ltd. B Ltd.
Rs. Rs.
Equity Share Capital (Rs. 10 each) 1,00,00,000 20,00,000
Reserves and Surplus 1,40,00,000 60,00,000
Secured Loans 40,00,000 –
Current liabilities 60,00,000 20,00,000
3,40,00,000 1,00,00,000
Fixed Assets 1,20,00,000 35,00,000
Investment in B Ltd. 7,40,000 –
Sundry Debtors 70,00,000 10,00,000
Inventories 60,00,000 50,00,000
Cash and Bank 82,60,000 5,00,000
3,40,00,000 1,00,00,000
A Ltd. holds 76% of the paid up capital of B Ltd. The balance shares in B Ltd. are held by a foreign Col-
laborating Company. A memorandum of understanding has been entered into with the foreign company
providing for the following.
a. The shares held by the foreign company will be sold to A Ltd. The price per share will be calculated
by capitalising the yield at 16%. Yield, for this purpose, would mean 40% of the average of pre-tax
profits for the last 3 years, which were Rs. 35 lakhs, Rs.44 lakhs and Rs.65 lakhs.
b. The actual cost of shares to the foreign company was Rs. 2,40,000 only. The profit that would accrue
to them would be taxable at an average rate of 20%. The tax payable be deducted from the proceeds
and A Ltd. will pay it to the Government.
c. Out of the net consideration, 50% would be remitted to the foreign company immediately and the
balance will be an unsecured loan repayable after one year. It was also decided that A Ltd. would
absorb B Ltd. simulataneously by writing down the Fixed assets of B Ltd. by 5%. The Balance sheet
figures included. a sum of Rs.1 ,50,000 due by B Ltd. to ALtd.
The entire arrangement was approved by all concerned for giving effect to on 1.4.2009. You are required
to show the Balance Sheet of A Ltd. as it would appear after rrangement is put through on 1.4.2009.
Solution :

134
WN # 1 : Computation of Purchase consideration :
a. Yield of B Ltd.
= (35+44+65) × 40% = Rs. 19.20 Lakhs
3
b. Price per share of B Ltd.
(Figures in Lakhs)
Particulars Amount
Yield of B Ltd. (Rs. in lakhs) 19.20
Capitalisation rate 16%
Value of B Ltd. (Rs. in lakhs) 120.00
No. of Shares Outstanding (lakhs) 2.00
Price per share (Rs.) (120.00/20.00) (Rs. 120 lakhs /2.00 lakh shares) 60
c. Purchase Consideration :
(Rs. in Lakhs)
Particulars Amount
Shares held by Foreign Collaborator (2,00,000 x 24%) 48,000 shares
Price per share Rs. 60/-
Purchase Consideration Rs. 28,80,000
WN # 2 : Discharge of Purchase Consideration :
a. Tax Payable:
(Rs. in Lakhs)
Purchase Consideration 28.80
Less: Cost of Acquisition (2.40)
Capital Gains 26.40
Tax payable @ 20% 5.28

135
b. Mode of payment of purchase consideration
Purchase Consideration 28.80
Less: Income Tax payable (5.28)
23.52
To be remitted immediately To be retained as Unsecured Loans
50% 50%
Rs. 11.76 Rs. 11.76
WN # 3 : Calculation of Goodwill / Capital Reserve on Absorption
A. Calculation of Net Assets:
a. Assets taken over :
i. Fixed assets 35
Less: 5% reduction in value (1.75) 33.25
ii. Sundry Debtors 10.00
iii. Inventories 50.00
iv. Cash and Bank balances 5.00
98.25
b. Current liabilities 20.00
c. Net Assets taken over (a-b) 78.25
B. Goodwill / Capital Reserve :
Particulars Amount Rs. in
Lakhs
Net Assets taken over 78.25
Less: Purchase Consideration (28.80)
Less: Investments in B Ltd. (7.40)
Capital Reserve 42.05

136
WN # 4 : Computation of Cash and Bank Balances after absorption
Particulars Rs. in
Lakhs
Balance in A Ltd. 82.60
Cash and Bank Balance of B. Ltd. 5.00
Less : Remittance to Foreign Collaborating Company (11.76)
Less : TDS paid (5.28)
Cash and Bank balance 70.56
Balance Sheet of A Ltd. as on 1st April, 2009
Liabilities Rs. Amount Assets Rs. Amount
Equity Share Capital 100.00 Fixed assets
of Rs. 10 each (120 + 33.25) 153.25
Reserves and Surplus: Current assets,
Capital Reserve 42.05 Loans and Advances:
Other Reserve 140.00 182.05 Sundry Debtors 80
Secured Loans 40.00 (70+10)
Unsecured Loans (WN # 2) 11.76 Less: Inter Company
Current liabilities :- owings (1.5) 78.50
A Ltd. 60.00 Inventories (60+50) 110.00
B Ltd. 20.00 Cash & Bank 70.56
Less: Inter Co. Owings (1.50) 78.50 (WN #4)
412.31 412.31
Problem - 22
The Balance Sheets of S Ltd. and P Ltd. as on 31.03.09 are as under:
(Rs. in Lakhs)
Liabilities S P Assets S P
Equity Shares of Rs. 100 each 25.00 50.00 Fixed Assets 110.00 50.00
Reserves 131.00 29.25 Investments 16.25 25.00
12% Debentures 11.00 5.50 Current Assets 40.25 3.25
Creditors 8.00 2.75 Miscellaneous 8.50 9.25
Expenditure
175.00 87.50 175.00 87.50
Investments of S Ltd. represents 12,500 shares of P Ltd. investments of P Ltd. are considered worth Rs. 30
lakhs.

137
P Ltd. is taken over by S Ltd. on the basis of the intrinsic value of shares in their respective books of ac-
counts.
Prepare a statement showing the number of shares to be allotted by S Ltd. to P Ltd. and the balance sheet
of S Ltd. after absorpotion of P Ltd.
Solution :
Part. I : Purchase consideration
WN # 1 Net Assets
(Rs. in lakhs)
S Ltd. P Ltd.
A. Assets
i) Fixed Assets 110.00 50.00
ii) Investments 18.75* 30.00
iii) Current Assets 40.25 3.25
169.00 83.25
B. Liabilities
i) 12% Debentures 11.00 5.50
ii) Creditors 8.00 2.75
19.00 7.75
150.00 75
C. Net Assets [A-B]
* Investments of ‘S’ Ltd = 12,500 × Rs. 150 [WN # 2]
= Rs. 18.75 Lakhs.
WN # 2 : Intrinsic Value
S Ltd. P. Ltd.
Net assets 150.00 Lakhs 75.00 Lakhs
No. of equity shares 25,000 50,000
Intrinsic value Rs. 600 Rs. 150.00
WN # 3 : Purchase consideration (No. of shares alloted)
No. of equity shares outstanding in P Ltd 50,000
Less: Already held by S Ltd. 12,500
No. of equity shares of outsiders 37,500
Intrinsic value of P Ltd. Rs. 150
Purchase consideration (37,5000 × 150) 56,25,000
Instrinsic value per share of S Ltd. Rs. 600
No. of shares to be allotted 56,25,000/600
9,375 shares

138
Equity Share Capital = 9,375×100 = 9,37,500
Securities Premium = 9,375×500 = 46,87,500
Part - II : In the books of S Ltd.
1. For Purchase Consideration Due :
To Liquidator of P Ltd. A/c 56,25,000
Investments A/c Dr. 30,00,000
Current Assets A/c Dr. 3,25,000
To 12% Debentures A/c 5,50,000
To Investment in shares of P Ltd. A/c 16,25,000
To Capital Reserve (Balancing Figure) 2,50,000
3. Discharge of purchase consideration :
Liquidator of P Ltd. A/c Dr. 56,25,000
To Share Capital A/c 9,37,500
Balance sheet of S Ltd. (after absorption)
(Rs. in lakhs)
Rs. Rs.
Share capital : 34.38 Fixed assets: 160.00
34,375 equity shares of (110+50)
Rs. 100/ - each Investments 30.00
[of the above shares 9,375 Current assets, loans and
equity shares are allotted as advances :
fully paid up for consideration Current assets 43.50
other than cash] Miscellaneous expenditure 8.50
Capital reserve 131.00
Securities premium 2.50
Secured loans 46.87
12% Debenture 16.50
Current liabilities and provisions
Creditors 10.75
242.00 242.00

139
Problem - 23
Given below Balance sheets of X Limited and Y Limited as at 31.3.2009.
X Ltd. YLtd.
Rs. in Lakhs Rs. in Lakhs
Sources of Funds
Shareholders’ funds 500 300
Equity Shares of Rs. 100 each
General Reserve 200 100
Proﬁt and Loss A/c 100 100
Loan Funds
Secured Loans 300 200
Unsecured Loans 100 100
1,200 800
Applications of Funds:
Fixed Assets
Gross block 800 600
Less: Depreciation (200) (150)
Net block 600 450
Investments - in 2.4 lakhs shares of Y Ltd. 300 –
Others – 100
Current assets, Loans and Advances
Less: Current liabilities 400 400
Net Current assets (100) (150)
300 250
1,200 800
X Ltd. agreed to take over all the assets and liabilities of Y Ltd. at book value and discharge the claims
of minority shareholders by issuing its one share for every two shares held. Minorities claims are to be
discharged on the basis of intrinsic value per share. For computing intrinsic value per share net Fixed as-
sets of Y Ltd are to be valued at Rs. 850 Lakhs. Prepare post merger Balance Sheet of X Ltd. Show all your
workings.

140
Solution :
Part I : Calculation of Purchase Consideration
WN # 1 : Computation of Intrinsic Value
Rs. in Lakhs
X Ltd Y Ltd
Fixed assets 600 850
Investments: In Y Ltd. (24 x 30) 720 –
Other investments – 100
Current assets, Loans and Advances 400 400
Less: Current liabilities (100) (150)
Less: Unsecured Loans (100) (100)
Less: Secured Loans (300) (200)
Net Assets 1220 900
Intrinsic Value (Net Assets ÷ No. of shares outstanding) 1220/5 900/3
= 244 = 300
WN # 2 : Purchase Consideration
Particulars
Total number of shares outstanding (lakhs) 3,00,000
Less: Shares held by X Ltd. (lakhs) 2,40,000
Shares held by Outsiders (lakhs) 60,000
Exchange Ratio (lakhs) 1:2
No. of shares to be issued (lakhs) 30,000
Intrinsic Value Per share 244
Purchase Consideration (30,000 × Rs. 244) Rs. 73.2 Lakhs
Part II - In the Books of Purchasing Co. X Ltd
• Nature of Amalgamation : Merger
• Method of Accounting : Pooling of interest
(Rs. in Lakhs)
1. For Purchase Consideration Due :
Business Purchase A/c Dr. 73.20
To Liquidator of Y Ltd A/c 73.20
2. For Assets and Liabilities Takeover :
a. Aggregate Consideration
i. Already Paid 300.00
ii. Balance Payable (73.20)
373.20
b. Less: Paidup Capital of Vendor Co. (300.00)
c. Excess
(The above excess to be adjusted against:
*General Reserves of Y Ltd. 73.20

141
d. Balance of General Reserves of Y Ltd. to be
incorporated (100 – 73.20) 26.80
Fixed Assets A/c Dr. 600.00
Investments A/c Dr. 100.00
Current Assets A/c Dr. 400.00
To Provision for depreciation A/c 150.00
To Current liabilities and Provisions A/c 150.00
To Secured Loans A/c 200.00
To Unsecured Loans A/c 100.00
To Business Purchase A/c 73.20
To Investments in Y Ltd A/c 300.00
To General Reserve A/c 26.8
To Proﬁt and Loss A/c 100.00
3. For Discharge of Purchase Consideration
Liquidator of Y Ltd A/c Dr. 73.2
To Equity Share Capital A/c 30.0
To Securities Premium A/c 43.2
Balance Sheet of X Ltd as at 31 st March 2009
Lakhs Lakhs
Authorised, Issued, Subscribed Fixed assets 1400
and paid up Share capital of Less : Accumulated
Rs. 100 each (out of the above 30,000 Depreciation 350 1050
shares were issued for Investments 100
consideration other than for cash) 530 Current assets 800
General Reserve 226.80
Proﬁt and Loss A/c 200
Securities Premium 43.20
Secured Loans 500
Unsecured Loans 200
Current liabilities and 250
Provisions
1950 1950

142
IV. Selling Company holding shares in Purchasing Company
Problem - 24
Following are the Balance sheets of two companies, B Ltd. and D Ltd. as at December 31, 2008.
Liabilities B Ltd. D Ltd. Assets B Ltd. D Ltd.
Rs. Rs. Rs. Rs.
Equity Share Capital: Sundry Assets 7,50,000 3,50,000
(Shares of Rs. 10 each) 5,00,000 30,00,000 10,000 Shares in
Reserve 1,00,000 55,000 B Ltd. — 1,00,000
Creditors 1,50,000 95,000
Total 7,50,000 4,50,000 Total 7,50,000 4,50,000
B Ltd. was to absorb D Ltd. on the basis of intrinsic value of the shares, the purchase consideration was to
be discharged in the form of fully paid shares, entries to be made at par value only. A sum of Rs. 20,000
is owed by B Ltd. to D Ltd. Also included in the stocks of B Ltd. Rs. 30,000 goods supplied by D Ltd. cost
plus 20%. Give Journal entires in the books of both the Companies.
Solution:
Part I: In the Books of D Ltd.
Rs. Rs.
1. Realisation A/c Dr. 3,50,000
To Sundry Assets A/c 3,50,000
[Being the assets taken over by B Ltd. transferred
to Realisation A/c]
2. Creditors A/c Dr. 95,000
To Realisation A/c 95,000
[Being Creditors taken over by B Ltd. transferred
Realisation A/c]
3. B Ltd. A/c Dr. 2,12,500
[Being purchase consideration (WN # 2) receivable]
4. Shares in B Ltd. A/c Dr. 2,12,500
To B Ltd. A/c 2,12,500
[Being discharge of purchase consideration]
5. Shareholders A/c Dr. 42,500
[Being realisation loss transferred to Shareholder A/c]
6. Share Capital A/c Dr. 3,00,000
Reserves A/c Dr. 55,000
To Shareholders A/c 3,55,000
[Being Share capital and Reserves transferred to
Shareholders A/c]
7. Shareholders A/c Dr. 3,12,500
To Shares in B Ltd. 3,12,000
[Being the settlement to shareholders for the
amount due]

143
Calculation of Purchase consideration - Net Assets Method
WN # 1: Intrinsic value of share
Particulars B Ltd D Ltd.
(Rs.) (Rs.)
a) Sundry Assets 7,50,000 3,50,000
b) Investments in B Ltd. 10,000 shares @ Rs. 12 each — 1,20,000
c) Creditors (1,50,000) (95,000)
d) Net Assets 6,00,000 3,75,000
e) No. of shares outstanding 50,000 30,000
f) Intrinsic Value of shares [d ÷ e] 12 12.5
WN # 2: Purchase Consideration
Particulars Amount
a) No. of shares of D Ltd. 30,000
b) Value of shares @ Rs. 12.50 Rs. 3,75,000
c) No. of shares issuable based on intrinsic value of Rs. 12 31,250
(3,75,000 ÷ 12)
d) No. of shares held by D Ltd. (10,000)
e) Net shares to be issued 21,250
f) Total consideration at par (21,250 x Rs. 10) Rs. 2,12,500
Part - II : In the books of B Ltd.
Nature of Amalgamation - Merger
Method of Accounting - Pooling of Interest
(Rs.) (Rs.)
1. For Purchase Consideration Due:
To Liquidator of D Ltd.’s A/c 2,12,500
2. a. For of assets and liabilities taken over
i. Aggregate consideration to share holders of
Selling Company
* Shares already held by D Ltd. 1,00,000
* Shares now issued 2,12,500
ii. Paid up capital of D Ltd. 3,12,500
(3,00,000)
iii. Excess 12,500
iv. Above excess to be adjusted against 12,500
reserves of D Ltd.
v. Balance of reserves to be incorporated 42,500
(55,000 - 12,500)
b. Assets A/c Dr. 3,50,000
To Reserves A/c 42,500

144
(Rs.) (Rs.)
3. Discharge of Purchase consideration
Liquidator of D Ltd.’s A/c Dr. 2,12,500
4. Others
a. Cancellation of Inter company owings
Creditors A/c Dr. 20,000
To Sundry Assets A/c 20,000
b. Adjusted of Stock Reserve
Reserve A/c Dr. 5,000
To Stock Reserve 5,000
Balance Sheet of B Ltd. as on 31.12.2008 (after Amalgamation)
Share Capital 7,12,500 Sundry Asset 10,75,000
(of the above, 21,250 shares (7,50,000+3,50,000–
issued for consideration other 20,000 – 5,000)
than cash)
Reserves and Surplus
Reserve (1,00,000+42,500 – 5,000) 1,37,500
Creditors 2,25,000
10,75,000 10,75,000
Problem - 25
Jay Ltd., and Krishna Ltd., had the following ﬁnancial position as at 31st March, 2009.
Jay Krishna Jay Krishna
Ltd. Ltd. Ltd. Ltd.
Share capital: 24,00,000 18,00,000 Goodwill 15,00,000 3,00,000
Equity shares of Fixed assets 12,00,000 21,00,000
Rs. 100 each fully paid Investment at cost 9,00,000 6,00,000
General Reserve 9,00,000 6,00,000 Current assets 9,00,000 7,50,000
Investment Allowance
Reserve — 9,00,000
Liabilities 12,00,000 4,50,000
45,00,000 37,50,000 45,00,000 37,50,000
It was decided that Jay Ltd. will take over the business of Krishna Ltd., on that date, on the basis of the
respective share values adjusting, wherever necessary, the book values of assets and liabilities on the
strength of information given below:
1) Investment of Krishna Ltd., included 3,000 shares in Jay Ltd., acquired at a cost of Rs. 150 per share.
The other investments of Krishna Ltd., have a market value of Rs. 75,000;
2) Investment Allowance Reserve was in respect of additions made to Fixed assets by Krishna Ltd., in
the years 2004-2007 on which Income Tax relief has been obtained. In terms of the Income Tax Act,
the company has to carry forward till 2011, reserve of Rs. 4,50,000 for utilisation;
3) Goodwill of Jay Ltd., and Krishna Ltd., are to be taken at Rs. 12,00,000 and Rs. 6,00,000 respective-
ly;

145
Advanced Financial Accounting Reporting
4) The market value of investments of Jay Ltd., was Rs. 6,00,000;
5) Current assets of Jay Ltd., included Rs. 24,00,000 of stock in trade obtained from Krishna Ltd. which
company sold at a proﬁt of 25% over cost ;
6) Fixed assets of Jay Ltd., and Krishna Ltd., are valued at Rs. 15,00,000 and Rs. 22,50,000 respectively.
Suggest the scheme of absorption and show the journal entries necessary in the books of Jay Ltd. Also
prepare the Balance Sheet of that company after takeover of the business of Krishna Ltd.
Solution:
Part I: Purchase Consideration
WN # 1: Intrinsic Value of Shares
Particulars Jay Ltd. Krishna Ltd.
Rs. Rs.
Goodwill 12,00,000 6,00,000
Fixed assets 15,00,000 22,50,000
Investments - Outside 6,00,000 75,000
- Inter Co [13,000 shares @ Rs. 125 each] — 3,75,000
Current assets 9,00,000 2,50,000
Liabilities (12,00,000) (4,50,000)
Net assets 30,00,000 36,00,000
No. of shares outstanding 24,000 18,000
Intrinsic value per share (30,00,000/125); (36,00,000/180) 125 200
WN # 2 : Purchase Consideration
Particulars Krishna Ltd.
Rs.
Total no. of shares outstanding in Krishna Ltd. 18,000
Value of shares @ Rs. 200/- each 36,00,000
No. of shares issuable on the basis of Intrisic value of share 28,800
(36,00,0000 ÷ 125)
Less: Shares already held (3,000)
No. of shares to be issued 25,800
Shares price 125
Purchase Consideration (25,800×125) 32,25,000
Part II : In the Books of Jay Ltd.
Nature of Amalgamation - Purchase
Method of Accounting - Purchase
(Rs.) (Rs.)
1. For Purchase Consideration Due
To Liquidator of Krishna Ltd. A/c 32,25,000
2. For Assets and Liabilities taken over:

146
(Rs.) (Rs.)
Current Assets A/c Dr. 7,50,000
To Liabilities A/c 4,50,000
3. For Discharge of Purchase consideration
Liquidator of Krishna Ltd. A/c Dr. 32,25,000
4. Contra entry for statutory reserve
Amalgamation adjustment A/c Dr. 60,000
To Investment allowance A/c 60,000
5. For adjustment of stock reserve
Goodwill A/c Dr. 48,000
To Stock Reserve A/c 48,000
Balance Sheet of Jay Ltd. (after amalgamation)
Liabilities Amount (Rs) Assets Amount Rs
Share capital 49,80,000 Goodwill 21,48,000
49,800 shares of Rs. 1000 (of which Fixed Assets 34,50,000
25,800 shares of Rs. 1000 Investment 9,75,000
each issued for consideration Curent Assets: 16,02,000
other than cash) Miscellaneous Expenditure
Reserves and surplus Amalgamation Adjustment A/c 4,50,000
Securities premium 6,45,000
Investment Allowance Reserve 4,50,000
General reserve 9,00,000
Current liabilities 16,50,000
86,25,000 86,25,000
V. Cross Holding
Problem - 26
The following Balance sheets of A Ltd. and B Ltd. as at 31st March, 2009 are given to you:
A Ltd. B Ltd.
Rs. Rs.
Liabmties:
Equity Share capital
of Rs.10 each 15,00,000 5,00,000

147
A Ltd. B Ltd.
Rs. Rs.
General Reserve 2,00,000 1,00,000
Proﬁt and Loss Account 1,60,000 10,000
10% Debentures — 3,00,000
Current liabilities 2,00,000 90,000
20,60,000 10,00,000
Assets:
Fixed Assets 10,00,000 50,000
Sundry Debtors 2,90,000 1,50,000
Stock 4,80,000 2,10,000
10,000 shares in B Ltd. 1,50,000 —
30,000 shares in A Ltd. — 5,00,000
Cash at bank 1,40,000 90,000
20,60,000 10,00,000
B Ltd. traded raw material which were required by A Ltd. for manufacture of its products. Stock of A Ltd.
includes Rs. 1,00,000 for purchases made from B Ltd. on which the company (B Ltd.) made a proﬁt of 12%
on selling price. A Ltd. owed Rs. 25,000 to B Ltd. in this respect. It was decided that A Ltd. should absorb
B Ltd. on the basis of the intrinsic value of the shares of the two companies. Before absorption, A Ltd.
declared a dividend of 10%. A Ltd. also decided to revalue the shares in B Ltd. before recording entries
relating to the absorption.
Show the journal entries, which A Ltd. must pass to record the acquisition and prepare its balance sheet
immediately thereafter. All workings should from part of your answer.
Solution :
Part I - Purchase consideration - Net Asset Method.
WN #1: Net assets excluding inter company investment at the time of Amalgamation
Rs.
Particulars A B
Fixed Assets 10,00,000 50,000
Sundry Debtors 2,90,000 1,50,000
Stock 4,80,000 2,10,000
Cash 1,40,000 90,000
Dividend Receivable 30,000
Less:
10% Debentures — (3,00,000)
Current liabilities (2,00,000) (90,000)
Proposed Dividend (1,50,000)
15,60,000 1,40,000

148
WN # 2 : Intrinsic value of investment
A = 15,60,000 + 0.2 B
B = 1,40,000 + 0.2 A
A = 15,60,000 + 0.2 (1,40,000 + 0.2A)
A = 15,60,000 + 28,000 + 0.04A
0.96A = 15,88,000
A = 16,54,166.67
B = 1,40,000 + 0.2 (16,54,166.67)
= 4,70,833.32
Summary :
a) Net Assets (Rs.) 16,54,167 4,70,833
b) No. of shares outstanding 1,50,000 50,000
c) Intrinsic value per share Rs. 11 Rs. 9.4
WN # 3: Purchase consideration
Total no. of B Ltd.’s shares outstanding 50,000
Less: No. of shares held by A Ltd 10,000
Shares held by outsiders 40,000
Value of the above shares (40,000 × Rs. 9.40) Rs. 3,76,000
Number of shares issuable at intrinsic value (3,76,000÷11) 34,182
Less: Number of shares already held by B Ltd. 30,000
Number of shares to be issued 4,182
Purchase consideration (4182 x 11) Rs. 46,002
In Shares In Cash
Rs. 46,000 Rs.2
Part II - In the books of Selling Company - B Ltd.
Section A: Pre-Amalgamation Event
i. Dividend Receivable
Dividend Receivable A/c Dr. 30,000

149
Note : Revised Proﬁt and Loss A/c balance = Rs. 10,000 + 30,000
= Rs. 40,000
Section B : Entries relating to Amalgamation
Realisation Account
Dr. Cr.
To Fixed Assets 50,000 By Debentures 3,00,000
To Debtors 1,50,000 By Creditors 90,000
To Stock 2,10,000 By A Ltd.’s A/c (Purchasing Co.) 46,002
To Cash 90,000 By Share capital (Head as Investment) 1,00,000
To Dividend Receivable 30,000
To Proﬁt transferred 6,002
to share holders
5,36,002 5,36,002
Rs. Rs.
1. Transfer to Realisation Account
a. Transfer of Assets
Realisation A/c Dr. 5,30,000
To Fixed Assets A/c 50,000
To Debtors A/c 1,50,000
To Stock A/c 2,10,000
To Cash A/c 90,000
To Dividend Receivable A/c 30,000
(Being assets taken over by transferred
to Realisation A/c)
b. Transfer of Liabilities
10% Debentures A/c Dr. 3,00,000
(Being liabilities taken over by A Ltd.
transferred to Realisation A/c)
2a. Purchase consideration due:
A Ltd A/c Dr. 46,002
b. Receipt of Purchase Consideration :
Cash A/c Dr. 2
Equity shares of A Ltd A/c Dr. 46,000
To A Ltd A/c 46,002

150
Rs. Rs.
3. Cancellation of paid up capital to the extent
of A Ltd’s Interest (Purchasing Co.) :
Share Capital A/c Dr. 1,00,000
4. a. Amount due to outside shareholders :
Transfer of remaining Share capital and all reserves
Share Capital A/c Dr. 4,00,000
General Reserve A/c Dr. 1,00,000
Profit Loss A/c Dr. 40,000
b. Transfer of profit on realisation to shareholders :
Realisation A/c Dr. 6,002
To Shareholders A/c 6,002
5. Settlement of amount to outsiders
(5,40,000 + 6,002) :
Shareholders A/c Dr. 5,46,002
To Equity shares of A Ltd. (5,00,000 + 46,000) 5,46,000
To Cash A/c 2
PART III - In the books of A Ltd (Purchasing co.)
Section A - Pre Amalgamation Events.
1. Proposed dividend :
Profit Loss A/c Dr. 1,50,000
To Proposed Dividend A/c 1,50,000
2. Revaluation of Investments
To Investments A/c [1,50,000 - (10,000 × 9.4)] 56,000
Section B - Amalgamation events
Nature of Amalgamation : Merger
Method of Accounting : Pooling of Interest
(Rs.)
3. For Purchase Consideration Due :-
To Liquidator of B Ltd.’s A/c 46,002

151
a. Aggregate investment -
Consideration Paid
i. Investment of A Ltd. in B 94,000
ii. Paid to outsiders.
I. Now issued 46,002
II. Already held
by A Ltd. in B Ltd. 5,00,000 5,46,002
6,40,002
III. Less: Paid up capital (5,00,000)
IV. Excess 1,40,002
b. Above excess to be adjusted against
i. General reserve of B Ltd. 1,00,000
ii. P L A/c of B Ltd. 40,000
c. Balance of B Ltd reserve to be 1,40,000
incorporated
i. General reserve (1,00,000 – 1,00,000) Nil
ii. Proﬁt and Loss A/c (40,000 – 40,000) Nil
Fixed Assets A/c Dr. 50,000
Sundry Debtors A/c Dr. 1,50,000
Cash at Bank A/c (90,000 + 2) Dr. 90,002
Dividend Receivable A/c Dr. 30,000
To Debentures A/c 3,00,000
To Investments in B Ltd A/c 94,000
5. Discharge of Purchase Consideration:
Liquidator of B Ltd A/c Dr. 46,002
To Equity Share Capital A/c 41,818
To cash A/c 2
6. Others
a. Cancellation of inter company dividends.
Proposed Dividend A/c Dr. 30,000
To Dividend Receivable A/c 30,000
b. Cancellation of inter company owings.
To Debtors A/c 25,000
c. Creation of Stock Reserve
Proﬁt Loss A/c Dr. 12,000
To Stock Reserve A/c 12,000

152
A Ltd
Balance Sheet as at 31st-March 2009
Share Capital: Fixed assets
Authorised, issued, (10 Lakhs + 50,000) 10,50,000
subscribed and fully Current assets, Loans
paid up equity shares 15,41,820 and Advances
of Rs.10 each [of which Stock (480+210) 6,90,000
4182 shares Less: Reserve (12,000) 6,78,000
were issued for debtors (290+150-25) 4,15,000
consideration other Cash at bank
than cash] (1,40,000 + 90,002) 2,30,002
Securities premium 4,182
General reserve 2,00,000
Proﬁt and Loss A/c (58,000) 1,46,182
Secured Loans :
10% Debentures 3,00,000
Current liabilities
and Provisions
A. Current liabilities 2,65,000
B. Proposed dividend 1,20,000
23,73,002 23,73,002
Illustration 27:
The following are the Balance Sheets of A Ltd. and B Ltd. as on 31st December 2008.
Liabiltiies A Ltd. BLtd. Assets A Ltd. BLtd.
Rs. Rs. Rs. Rs.
Share capital Fixed Assets 7,00,000 2,50,000
Equity shares of 6,00,000 3,00,000 Investment:
Rs. 10 each 6,000 shares of B
10% Preference 2,00,000 1,00,000 Ltd. 80,000 -
shares of Rs. 10 5,000 shares of A
each Ltd. - 80,000
Reserves and 3,00,000 2,00,000 Current Assets:
surplus Stock 2,40,000 3,20,000
Secured loans: Debtors 3,60,000 1,90,000
12% Debentures 2,00,000 1,50,000 Bills receivable 60,000 20,000
Current liabilities Cash at bank 1,10,000 40,000
Sundry creditors 2,20,000 1,25,000
Bills payable 30,000 25,000
15,50,000 9,00,000 15,50,000 9,00,000
Fixed assets of both the companies are to be revalued at 15% above book value. Stock in—trade and Debtors
are taken over at 5% lesser than their book value. Both the companies are to pay 10% Equity dividend,
Preference dividend having been already paid.

153
After the above transactions are given effect to, A Ltd. will absorb B Ltd. on the following terms.
i. 8 Equity shares of Rs. 10 each will be issued by A Ltd. at par against 6 shares of B Ltd.
ii. 10% Preference Shareholders of B Ltd. will be paid at 10% discount by issue of 10% Preference Shares
of Rs. 100 each at par in A Ltd.
iii. 12% Debentureholders of B Ltd. are to be paid at 8% premium by 12% Debentues in A Ltd. issued
at a discount of 10%.
iv. Rs. 30,000 is to be paid by A Ltd. to B Ltd. for Liquidation expenses. Sundry creditors of B Ltd. include
Rs. 10,000 due to A Ltd.
Prepare :
(a) Absorption entries in the books of A Ltd.
(b) Statement of consideration payable by A Ltd.
Solution:
Part - I Purchase consideration payable by A Ltd.
A. Equity share holders:
No of equity shares of B Ltd. 30,000
Less:- Held by A Ltd. 6,000
No. of equity shares held by outsiders 24,000
Exchange ratio 8:6
No. of equity shares to be issued by A Ltd. (24,000 × 8/6) 32,000
Less: Already held by B Ltd. in A Ltd. (5,000)
No. of equity shares to be issued now 27,000
Value of shares to be issued 27,000 × 10 = Rs. 2,70,000
B. Preference share holders:
Preference Share capital of B Ltd. 1,00,000
Payable at discount of 10% [100,000 - (10% of 100,000)] 90,000
10% Preference shares to be issued at par by A Ltd. to B Ltd. Rs. 90,000
C. Purchase consideration (A+B) Rs. 3,60,000
Part II - Absorption entries in the books of A Ltd.
A. Pre - Amalagamation Events :-
1. Revaluation of Fixed assets
To Revaluation Reserve A/c 1,05,000
2. Dividend received from B Ltd. on 600 shares
Bank A/c Dr. 6,000
To Reserves and Surplus 6,000

154
3. Dividend on equity Share capital @ 10%
i. Due entry
Reserves and Surplus Dr. 60,000
To Proposed Dividend A/c 60,000
ii. Payment entry
Proposed Dividend A/c Dr. 60,000
To Bank A/c 60,000
B. Amalgamation Events
Nature of Amalgamation - Purchase
Method of Accounting - Purchase
Business purchase A/c Dr. 3,60,000
To Liquidator of B Ltd. 3,60,000
2. For assets and liabilities taken over
Fixed Assets (115% of 2,50,000) Dr. 2,87,500
Stock A/c (95% of 3,20,000) Dr. 3,04,000
Debtors A/c [95% of 200,000] - (5% of 190,000) Dr. 1,80,500
Bills Receivable A/c Dr. 20,000
Bank A/c * Dr. 15,000
To 12% Debentures of B Ltd A/c 1,62,000
To Sundry creditors A/c 1,25,000
To Bills payable A/c 25,000
To Investment in B Ltd. A/c 80,000
To Capital Reserve A/c (Balancing Figure) 55,000
3. For Discharge of Purchase consideration
Liquidator of B Ltd A/c Dr. 3,60,000
To 10% Preference Share Capital A/c 90,000
4. Liquidation expenses incurred by B Ltd, later reimbursed by A Ltd.
Capital Reserve A/c Dr. 30,000
To Bank A/c 30,000
5. Discharge to debenture holders of B Ltd.
12% Debenture Holders A/c Dr. 1,62,000
Discount on Issue of debentures A/c Dr. 18,000
To 12% Debentures A/c. 1,80,000

155
6. Cancellation of inter company owings
Sundry Creditors A/c Dr. 10,000
To Sundry Debtors A/c 10,000
* Bank Balance of B Ltd.
Balance as per Balance Sheet 40,000
Add : Dividend Received from A Ltd (10% on 50,000) 5,000
Less : Dividend paid on Share capital (10% on 3,00,000) [30,000]
15,000
# 12% Debentures of B Ltd. 1,50,000
Payable at 8% premium 1,50,000 × 108%
= 1,62,000
VI. Chain Holding
Problem - 28
The following are the summarized Balance Sheet of A Ltd. and B Ltd.
Equity Share CapitalA/c 32,000 28,000 Sundry assets 42,000 33,000
Proﬁt and Loss A/c 5,000 — Shares in B Ltd. 20,000 —
Creditors 15,000 6,000 Proﬁt and Loss A/c — 1,000
Loan - C Ltd. 10,000 —
62,000 34,000 62,000 34,000
The whole of the shares of A Ltd. are held by C Ltd. and the entire Share capital of B Ltd. is held by A
Ltd.
A new company Z Ltd. is formed to acquire the sundry assets and liabilities of A Ltd. and B Ltd. For the
purpose, the sundry assets of A Ltd. are revalued at Rs. 30,000 and those of B Ltd. at Rs. 20,000.
Show the journal entries and prepare necessary ledgers A/c to close the books of A Ltd. and B Ltd.
Solution:
In the Books of A Ltd.
(Rs.)
1. Realisation A/c Dr. 62,000
To Investment in B Ltd. A/c 20,000
[Being sundry assets and shares in B Ltd. transferred
to Realisation A/c on sale of business of A Ltd.]
Loan (C Ltd.) A/c Dr. 10,000

156
[Sundry creditors and loans transferred to
Realisation A/c on sale of business to Z Ltd.]
3. Z Ltd. A/c Dr. 5,000
[Amount of purchase consideration receivable
from Z Ltd.]
4. Shares in Z Ltd. A/c Dr. 5,000
To Z Ltd. A/c 5,000
[Amount of purchase consideration received as
shares of B Ltd.]
[Amount of shares in Z Ltd. received against
investment in Z Ltd.]
6. Shareholders (C Ltd.) A/c Dr. 18,000
[Loss on realisation transferred to Shareholders A/c]
7. Equity Share Capital A/c Dr. 32,000
[Balance of Share capital and Proﬁt and Loss A/c
transfer to Share holder A/c]
8. Shareholders (C Ltd.) A/c Dr. 19,000
To Shares in Z Ltd. A/c 19,000
[Amount payable to shareholders discharged by
issue of shares in Z Ltd. (14,000÷5,000)]
In the Books of B Ltd.
1. Realisation A/c Dr. 33,000
[Being Sundry Assets and Shares in B Ltd.
transferred to Realisation account on sale
of business to Z Ltd.]
[Sundry Creditor is transferred to Realisation A/c
on sale of Business to Z Ltd.]
3. Z Ltd. A/c Dr. 14,000

157
[Amount of purchase consideration receivable
from Z Ltd. on transfer sundry assets, creditor
and Loan vide agreement dated.....]
4. Equity Share Capital A/c Dr. 28,000
To Shareholders (A Ltd.) A/c 28,000
[Being amount of Share capital transferred to
Shareholder A/c]
5. Shareholders A/c Dr. 14,000
[Loss on realisation and Proﬁt and Loss A/c debit
balance transferred to Share holders A/c]
To Z Ltd. A/c 14,000
[Amount of purchase consideration received in
shares of Z Ltd.]
7. Shareholders (A Ltd.) A/c Dr. 14,000
To Shares in Z Ltd. 14,000
[Amount payable to shareholders discharged by
issue of shares in Z Ltd.]
WN # 1 : Calculation of Purchase Consideration (Net Assets Method)
Value of net assets 30,000 20,000
Creditors (15,000) (6,000)
Loans from C Ltd. (10,000) —
Purchase Consideration 5,000 14,000
In the Books of B Ltd. :
Realisation Account
Dr. Cr.
To Sundry Assets 33,000 By Creditors A/c 6,000
By A Ltd. (Purchase Consideration) 14,000
By Shareholders (A Ltd.) A/c 13,000
(Loss on Realisation)
33,000 33,000

158
Shareholders (A Ltd.) Account
Dr. Cr.
To Realisation A/c 13,000 By Share Capital A/c 28,000
To Shares in Z Ltd. A/c 14,000
28,000 28,000
In the Books of A Ltd. :
Realisation Account
Dr. Cr.
To Sundry Assets 42,000 By Creditors A/c 15,000
To Investments in B Ltd. 20,000 By Loan (Z Ltd.) 10,000
By A Ltd. (Purchase 5,000
consideration)
By Shares in A Ltd. 14,000
By Shareholders A/c 18,000
(Loss on Realisation)
62,000 62,000
Sundry Shareholders (A Ltd.) Account
Dr. Cr.
To Realisation A/c 18,000 By Share capital A/c 32,000
To Shares in Z Ltd. 19,000 By Proﬁt and Loss A/c 5,000
(14,000 from B Ltd.
5,000 from Z Ltd.)
37,000 37,000
VII. Internal Reconstruction
Problem - 29:
The Balance Sheet of Z Ltd. before reconstruction is:
Building at cost
12,000 7% Preference Less: Depreciation 4,00,000
shares of Rs.50 each 6,00,000 Plant at cost
7,500 Equity shares of Rs. 100 Less: Depreciation 2,68,000
each 7,50,000 Trade Marks and Goodwill
at Cost 3,18,000

159
(Note : Preference dividend is Stock 4,00,000
in arrear for five years) Debtors 3,28,000
Loan 5,73,000 Preliminary expenses 11,000
Sundry creditors 2,07,000 Profit and Loss A/c 4,40,000
Other liabilities 35,000
Total 21,65,000 Total 21,65,000
The Company is now earning profits short of working capital and a scheme of reconstruction has been
approved by both classes of shareholders. A summary of the scheme is as follows:
a. The Equity Shareholders have agreed that their Rs. 100 shares should be reduced to Rs.5 by cancellation
of Rs. 95 per share. They have also agreed to subscribe in each for the six new Equity Shares of Rs. 5
each for each Equity Share held.
b. The Preference Shareholders have agreed to cancel the arrears of dividends and to accept for each
Rs.50 share, 4 new 5 per cent Preference Shares of Rs.10 each, plus 3 new Equity Shares of Rs. 5 each,
all credited as fully paid.
c. Lenders to the Company of Rs. 1,50,000 have agreed to convert their loan into share and for this
purpose they will be allotted 12,000 new preference shares of Rs.10 each and 6,000 new equity share
of Rs. 5 each.
d. The Directors have agreed to subscribe in cash for 40,000, new Equity Shares of Rs. 5 each in addition
to any shares to be subscribed by them under (a) above.
e. Of the cash received by the issue of new shares, Rs.2,00,000 is to be used to reduce the loan due by
the Company.
f. The equity Share capital cancelled is to be applied:
i. to write off the preliminary expenses;
ii. to write off the debit balance in the Profit and Loss A/c; and
iii. to write off Rs.35,000 from the value of Plant.
Any balance remaining is to be used to write down the value of Trade Marks and Goodwill.
Show by journal entries how the financial books are affected by the scheme and prepare the balance sheet
of company after reconstruction. The nominal capital as reduced is to be increased to the old figures of Rs.
6,50,000 for Preference capital and Rs.7,50,000 for Equity capital.
Solution :
1. Reduction of Equity capital
Equity Share capital A/c (Face Value Rs. 100) Dr. 7,50,000
To Equity Share capital (Face value Rs. 5) A/c 37,500
To Reconstruction A/c 7,12,500

160
2. Right issue : (7,500×6=45,000 Shares)
(a) Bank A/c Dr. 1,12,500
To Equity Share Application A/c 1,12,500
(b) Equity Share Application A/c Dr. 1,12,500
3. Cancellation of arrears of preference dividend
NO ENTRY (as it was not provided in the Books of Accounts)
Note :
(a) On cancellation, it ceases to be a contingent
liability and hence no further disclosure
(b) Preference shareholders have to forego
voting rights presently enjoyed at par with
equity share holders
4. Conversion of preference shares
7% Preference Share Capital A/c Dr. 6,00,000
Reconstruction A/c (balancing ﬁgure) Dr. 60,000
To 5% Preference Share Capital (12,000×4×10) 4,80,000
To Equity Share Capital (6,000 × 6 × 5) 1,80,000
5. Conversion of Loan
Loan A/c Dr. 1,50,000
To 5% Preference Share Capital A/c 1,20,000
6. Subscription by directors:
(a) Bank A/c Dr. 1,00,000
To Equity Share Application A/c 1,00,000
(b) Equity Share Application A/c Dr. 1,00,000
7. Repayment of loan
Loan A/c Dr. I2,00,000
To Bank 2,00,000
8. Utilisation of reconstruction surplus
Reconstruction A/c Dr. 6,52,500
To Preliminary Expenses A/c 11,000
To Proﬁt and Loss A/c 4,40,000
To Plant A/c 35,000
To Trademark and Goodwill A/c 1,66,500

161
Reconstruction Account
Dr. Cr.
To Preference shareholders 60,000 By Equity Share capital (FV Rs. 50) 7,12,500
To Preliminary expenses 11,000
To Plant A/c 35,000
To Trademark and Goodwill 1,66,500
7,12,500 7,12,500
Bank Account
Dr. Cr.
To Equity share application A/c 1,12,500 By Loan A/c 2,00,000
To Equity share application A/c 1,00,000 By Balance c/d 12, 500
2,12,500 2,12,500
Balance sheet of Z Ltd. (and Reduced)
Liabilities Rs. Assets Rs. Rs.
Authorised and issued Fixed assets :
capital Building at Cost
60,000 Preference shares 6,00,000 Less: Depreciation 4,00,000
of Rs. 10 each Plant Cost
1,50,000 Equity shares of 7,50,000 Less: Depreciation 2,68,000
Rs. 5 each Less: Reduction 35,000 2,33,000
Issued, subscribed and paid up Trade mark and
Equity capital 90,000 equity Goodwill at Cost 3,18,000
shares of Rs. 5 each 4,50,000 Less: Reduction 1,66,500 1,51,500
Current assets:
5% Preference Share Stock 4,00,000
capital Debtors 3,28,000
60,000 Preference shares 6,00,000 Bank 12,500
of Rs. 10 each Miscellaneous Exp.
Loan 5,73,000 Preliminary Exp. 11,000
Less: Reduction 3,50,000 2,23,000 Less: Reduced 11,000 Nil
Provisions
Other Liabilities 35,000
15,25,000 15,25,000

162
Problem - 30
M Ltd. is in the hands of a Receiver for debenture holders who holds a charge on all assets except uncalled
capital. The following statement shows the position as regards creditors as on 31st March, 2009:
Share capital 3,60,000 Property, Machinery
in shares of Rs.60 each and Plant etc. (Cost
Rs. 30 paid up - Rs. 3,90,000)
First Debentures 3,00,000 estimated at 1,50,000
Second Debentures 6,00,000 Cash in hand of
Unsecured Creditors 4,50,000 the Receiver 2,10,000
Charged under Debentures 4,20,000
Uncalled Capital 1,80,000
Deficiency 7,50,000
17,10,000 17,10,000
A holds the First Debentures for Rs. 3,00,000 and Second Debentures for Rs. 3,00,000. He is also an unsecured
creditor for Rs. 90,000. B holds Second Debentures for Rs. 3,00,000 and is an unsecured creditor for Rs.
60,000.
The following scheme of reconstruction is proposed:-
1. A is to cancel Rs. 2,10,000 of the total debt owing to him, to advance Rs. 30,000 in cash and to take
First Debentures (in cancellation of those already issued to him) for Rs.5,10,000 in satisfaction of all
his claims.
2. B is to accept Rs. 90,000 in cash in satisfaction of all claims by him.
3. Unsecured creditors (other than A and B) are to accept four shares of Rs.7.50 each, fully paid in
satisfaction of 75% of every Rs.60 of their claim. The balance of 25% is to be postponed and to be
payable at the end of three years from the date of Court’s approval of the scheme. The nominal Share
capital is to be increased accordingly.
4. Uncalled capital is to be called up in full and Rs. 52. 50 per share cancelled, thus taking the shares of
Rs. 7.50 each.
Assuming that the scheme is duly approved by all parties interested and by the Court, give necessary
journal entries and the Balance Sheet of the Company after the scheme has been carried into effect.
Solution :
WN # 1 : Calculation of P L Debit Balance at the time of Reconstruction
Share capital 1,80,000 Fixed assets 3,90,000
1 st Debenture 3,00,000 (Book value)
2nd Debenture 6,00,000 Cash 2,70,000
Unsecured creditors 4,50,000 Profit and Loss A/c (Bal. fig.) 8,70,000
15,30,000 15,30,000

163
Rs. Rs.
1. Restructuring of A’s liability:
a. Ascertainment of amount due
1st DebenturesA/c Dr. 3,00,000
2nd Debentures A/c Dr. 3,00,000
Unsecured Creditors A/c Dr. 90,000
To A’s A/c 6,90,000
b. Waiver
A’s A/c Dr. 2,10,000
c. Cash brought in
Bank A/c Dr. 30,000
To A’s A/c 30,000
d. Conversion of liability
A’s A/c Dr. 5,10,000
To 1st Debentures A/c 5,10,000
2. Restructuring of B’s liability:
2nd Debentures A/c Dr. 3,00,000
Unsecured creditors A/c Dr. 60,000
To Bank A/c 90,000
3. Restructuring of other unsecured creditors*
(4,50,000 - 90,000 - 60,000 = 3,00,000)
Unsecured Creditors A/c Dr. 3,00,000
To Loan (Unsecured) A/c 75,000
To Reconstruction A/c 75,000
4. Share capital
a. Call money due:
Share call A/c Dr. 1.80,000
To Share capital A/c 1,80,000
b. Share Call Money Received:
Bank A/c Dr. 1,80,000
To Share call A/c 1,80,000
c. Capital Reduction :
Equity Share Capital A/c (Face value Rs. 60) Dr. 3,60,000
To Equity Share capital (Face value Rs.7.50) 45,000
5. Utilisation of reconstruction surplus
Reconstruction A/c Dr. 8,70,000

164
a. Scheme of settlement unit of liability is 60
b. 75% share (60 x .75) 45
i. 4 Equity shares @ Rs. 7.5 30
ii. Waiver 15
c. 25% share (60 x .25) 15
[Can be carried forward as unsecured loan]
Note : Liability is settled in the Ratio of
30:15:15 (i.e. 2:1:1)
Balance Sheet (and Reduced)
Share capital 1,95,000 Fixed assets 3,90,000
Debentures 5,10,000 Cash 3,90,000
Unsecured Loans 75,000
7,80,000 7,80,000
Dr. Reconstruction Account Cr.
To Proﬁt and Loss A/c 8,70,000 By A’s A/c 2,10,000
By B’s A/c 2,70,000
By Unsecured creditors 75,000
By Equity Share Capital 3,15,000
8,70,000 8,70,000
Dr. Cash/Bank Account Cr.
To A’s A/c 3,00,000 By B’s A/c 90,000
To Share call A/c 1,80,000 By Balance c/d 3,90,000
4,80,000 4,80,000
Problem - 31
The following was the Balance Sheet of Bhushan Developers Ltd., as on 31st March 2009:
Authorised capital : Goodwill 10,000
20,000 Equity Shares of Land and buildings 20,500
Rs.10 each 2,00,000 Machinery 50,850
Issued, subscribed and Stock 10,275
paid up capital Book debts 15,000
12,000 Shares of Cash at bank 1,500
Rs.10 each 1,20,000 Proﬁt and Loss A/c :
Less: Calls in arrear Balance as per last
(Rs. 3 per share

165
Balance Sheet 22,000
on 3,000 shares) (9,000) Less: Profit for the year (1,200)
1,11,000
Provision for taxation 4,000 Preliminary expenses 1,500
1,30,425 1,30,425
The directors have had a valuation made of the machinery and find it overvalued by .. Rs.10,000. It is
proposed to write down this asset to its true value and to extinguish the deficiency in the Profit and loss
account and to write off goodwill and preliminary expenses, by the adoption of the following course :
1. Forfeit the shares on which the call is outstanding.
2. Reduce the paid up capital by Rs.3 per share.
3. Reissue the forfeited shares at Rs.5 per share.
4. Utilise the provision for taxes, if necessary.
The shares on which the calls were in arrear were duly forfeited and reissued on payment of Rs.5 per
share. You are requested to draft the journal entries necessary and the Balance sheet of the Company after
carrying out the terms of the scheme as set above.
Solution :
Rs. Rs.
1. Forfeiture of 3,000 shares :
Equity Share Capital A/c Dr. 30,000
To Calls in arrears A/c 9,000
To Share forfeiture A/c 21,000
2. Reduction of capital
Equity Share capital (Face value - Rs. 10) Dr. 90,000
To Equity Share capital (Face value Rs. 7) A/c 63,000
3. Re-issue of forfeiture shares :
Bank A/c Dr. 15,000
Shares Forfeiture A/c Dr. 6,000
4. Transfer of unutlised balance in share forfeiture A/c to Capital Reserve
Shares Forfeiture A/c Dr. 15,000
To Capital Reserve 15,000
5. Utilisation of Reconstruction A/c
Reconstruction A/c Dr. 27,000
Capital Reserve A/c Dr. 15,000
Provision for Tax A/c (Balancing Figure) Dr. 300
To Preliminary Expenses A/c 1,500
To Machinery A/c 10,000
To Goodwill A/c 10,000

166
Balance sheet of Bhushan Developers Ltd. (and Reduced) as at 01.04.09
Liabilities Rs. Rs. Assets Rs Rs.
Authorised Capital : Goodwill 10,000
20,000 Equity Shares of Less: Reduced 10,000 Nil
Rs. 10 each 20,00,000 Land and Building 20,500
Issued, Subscribed Machinery 50,850
and paid up Capital 84,000 Less: Reduced 10,000 40,850
12,000 shares of Rs.7 each Stock 10,275
Sundry creditors 15,425 Book Debts 15,000
Provision for tax 4,000 Cash at Bank 16,500
Less: Reduced 300 3,700 Profit and Loss A/c 20,800
Less: Reduced 20,800 Nil
Preliminary Expenses 1,500
Less: Reduced 1,500 Nil
1,03,125 1,03,125
Problem - 32
The Balance sheet of Z Ltd. at 31st March 2009 was as follows:
Liabilities Rs. Rs. Assets Rs Rs.
Share capital Intangibles 68,000
Authorised 14,00,000 Freehold premises at cost 1,40,000
Issued and subscribed capital Plant and equipment at cost
64,000 8% cumulative Less depreciation 2,40,000
preference shares of Investments in shares in
Rs. 10 each fully paid Q Ltd. at cost 3,24,000
64,000 equity shares of Stocks 2,48,000
Rs.10 each, Rs.7.5 paid 4,80,000 Debtors 3,20,000
Loans from directors 60,000 Deferred revenue expenditure 48,000
Sundry creditors 4,40,000 Profit and Loss A/c 4,40,000
Bank overdraft 1,08,000
18,28,000 18,28,000
Note: The arrear of preference dividends amount to Rs. 51,200.
A scheme of reconstruction was duly approved with effect from 1 April 2009 under the
conditions stated below:
a. The unpaid amount on the equity shares would be called up.
b. The preference shareholders would forego their arrear dividends. In addition, they would accept a
reduction of Rs. 2.5 per share. The dividend rate would be enhanced to 10%.
c. The equity shareholders would accept a reduction of Rs. 7.5 per share.
d. Z Ltd. holds 21,600 shares in Q Ltd. This represents 15% of the Share capital of that ompany. Q Ltd.
is not a quoted company. The average net profit (after tax) of the company is Rs. 2,50,000. The shares
would be valued based on 12% capitalisation rate.
e. A bad debt provision at 2% would be created.

167
f. The other assets would be valued as under:
Rs.
Intangibles 48,000
Plant 1,40,000
Freehold premises 3,80,000
Stocks 2,50,000
g. The proﬁt and loss account debit balance and the balance standing to the debit of
the deferred revenue expenditure account would be eliminated.
h. The directors would have to take equity shares at the new face value of Rs. 2.5 per
share in settlement of their loan.
The equity shareholders, including the directors, who would receive equity shares in settlement of
their loans, would take up two new equity shares for every one held.
The preference shareholders would take up one new preference share for every four
held.
The authorised Share capital would be restated to Rs. 14,00,000.
The new face values of the shares-preference and equity will be maintained at their reduced levels.
You are required
1. to prepare the necessary ledger accounts to effect the above; and
2. to prepare the balance sheet of the company after reconstruction.
Solution:
Share Call Account
Dr. Cr.
To Equity Share Capital A/c 1,60,000 By Bank A/c 1,60,000
1,60,000 1,60,000
Equity Share Capital Account
Dr. Cr.
To Reconstruction A/c 4,80,000 By Balance b/d 4,80,000
To Equity Share Capital A/c 1,60,000 By Equity Share Call A/c 1,60,000
5,40,000 5,40,000
8% Preference Share Capital Account
Dr. Cr.
To Reconstruction A/c 1,60,000 By Balance b/d 6,40,000
To 10% Preference 4,80,000
Share Capital A/c
6,40,000 6,40,000
i.
j.
k.

168
Invesment in shares in Q Ltd. Account
Dr. Cr.
To Balance b/d 3,24,000 By Reconstruction A/c 11,500
By Balance c/d (WN # 1) 3,12,500
3,24,000 3,24,000
WN # 1 : Value of investments
Particulars Amount
Rs.
Average net proﬁt (after tax) 2,50,000
Capitalisation Rate 12%
Value of Q Ltd. 2083333.33
Share of Z Ltd. 15%
Value of Z Ltd. investment in Q Ltd. 3,12,500
Bank Account
Dr. Cr.
To Equity Share Call A/c 1,60,000 By Balance b/d 2,08,000
To Equity Share Application By Balance c/d 5,12,000
Money A/c 4,40,000
To Preference Share Application 120,000
Money A/c
7,20,000 7,20,000
Reconstruction Account
Dr. Cr.
To Provision for Bad Debts A/c 6,400 By Equity Share capital A/c 4,80,000
To Intangible A/c 20,000 By 8% Preference Share 1,60,000
To Plant A/c 1,00,000 Capital A/c
To Proﬁt and Loss A/c 4,40,000 By Freehold Property A/c 2,40,000
To Deferred revenue Exp. A/c 48,000 By Stock A/c 2,000
To Investment in Q Ltd. A/c 11,500
To Capital Reserve A/c 2,56,100
8,82,000 8,82,000

169
Provision for Bad debts Account
Dr. Cr.
To Balance b/d 6,400 By Reconstruction A/c 6,400
6,400 6,400
Intangibles Account
Dr. Cr.
By Balance c/d 48,000
68,000 68,000
Plant Account
Dr. Cr.
To Balance b/d 2,40,000 By Reconstruction A/c 1,00,000
By Balance c/d 1,40,000
2,40,000 2,40,000
Freehold Premises Account
Dr. Cr.
To Balance b/d 1,40,000 By Balance c/d 3,80,000
3,80,000 3,80,000
Stock Account
Dr. Cr.
2,50,000 2,50,000
Proﬁt and Loss Account
Dr. Cr.
To Balance b/d 4,40,000 By Reconstruction A/c 4,40,000
4,40,000 4,40,000

170
Deferred Revenue Expense Account
Dr. Cr.
48,000 48,000
Loans from Directors Account
Dr. Cr.
To Equity Share capital 60,000 By Balance b/d 60,000
(No. 24,000)
(Face value of Rs 2.5)
60,000 60,000
Equity Share capital Account (Face value Rs. 2.5)
Dr. Cr.
To Balance b/d 6,60,000 By Equity Share capital 1,60,000
(Face value Rs. 10)
By Loans from directors A/c 60,000
By Share application money A/c 4,40,000
6,00,000 6,00,000
10% Preference Account
Dr. Cr.
To Balance b/d 6,00,000 By 8% Preference Share Capital 4,80,000
By Share application money A/c 1,20,000
6,00,000 6,00,000
Share Application Money Account
Dr. Cr.
To Equity Share Capital 4,40,000 By Bank A/c 4,40,000
(Face value Rs. 25) By Bank A/c 1,20,000
To 10% preference Share Capital 1,20,000
6,00,000 6,00,000

171
Balance Sheet of Z Ltd. as on 01.04.2009
Authorised Share Fixed assets
capital: 14,00,000 Intangibles 68,000
2,64,000 share of Less: Reduced (20,000) 48,000
Rs. 2.5 each 6,60,000
(of above 24,000) Feehold Premises 1,40,000
shares of Rs. 2.5 Lakhs Add: Increased 2,40,000 3,80,000
issued for Plant and Equipment net of
consideration other Depreciation 2,40,000
than cash to directors) Less: Reduced (1,00,000) 1,40,000
10% Preference Share 6,00,000 Investment in Shares in
capital 80,000 shares Q Ltd. at Cost 3,24,000
of Rs. 7.5 each Less: Reduced (11,500) 3,12,500
Reserve and surplus Stock 2,48,000
Capital reserve 2,56,100 Add: Increased 2,000 2,50,000
Sundry creditors 4,40,00 Debtors 3,20,000
Less: Provision (6,400) 3,13,600
Bank 5,12,000
Deferred Revenue Exp. 48,000
Less: Reduced (48,000) Nil
Proﬁt and Loss A/c 4,40,000
Less: Reduced (4,40,000) Nil
19,56,100 19,56,100
Notes:
1. It is assumed that there is permanent decline in the value of investments of Q Ltd.
2. Preference dividend, on cancellation, ceases to be a contingent liability. Hence, it is needles to disclose
the interest as Contingent Liability.
VIII. Reverse Merger
Problem - 33
The following are the Balance sheets of AB Ltd. and XY Ltd. as on 31.12.2008.
(‘000)
Liabilities AB Ltd. XY Ltd. Assets AB Ltd. XY Ltd.
Rs. Rs. Rs. Rs.
Share capital: Fixed assets
Equity Shares of Rs.100 2,000 1,000 (net of depreciation) 2,700 850
each fully paid up Investments 700 –
Reserves and surplus 800 – Sundry Debtors 400 150
10% Debentures 500 – Cash and Bank 250 –
Loan from Financial Proﬁt and Loss A/c – 800
Institutions 250 400

172
Liabilities AB Ltd. XY Ltd. Assets AB Ltd. XY Ltd.
Rs. Rs. Rs. Rs.
Bank Overdraft – 100
Sundry creditors 300 300
Proposed Dividend 200 –
Total 4,050 1,800 Total 4,050 1,800
It was decided that XY Ltd. will acquire the business of AB Ltd. for enjoying the beneﬁt of carry forward
of business loss. After acquisition, XY Ltd. will be renamed as Z Ltd. The following scheme has been
approved for the merger.
i. XY Ltd. will reduce its shares to Rs. 10 and then consolidate 10 such shares into one share of Rs. 100
each (New Share).
ii. Financial institutions agreed to waive 15% of the loan of XY Ltd.
iii. Shareholders of AB Ltd. will be given one new share of XY Ltd. in exchange of every share held in
AB Ltd.
iv. AB Ltd. will cancel 20% holdings of XY Ltd. Investments were held at Rs. 250 thousands.
v. After merger, the proposed dividend of AB Ltd. will be paid to the shareholders of ABLtd.
vi. Authorised Capital of XY Ltd. will be raised accordingly to carry out the scheme. vii. Sundry creditors
of XY Ltd. includes payables to AB Ltd. Rs. 1,00,000.
Pass the necessary entries to implement the scheme in the books of AB Ltd. and XY Ltd. and prepare a
Balance Sheet of Z Ltd.
Solution:
Part - I Purchase consideration
WN # 1: Shareholding of AB Ltd. in XY Ltd.
Particulars Amount Rs.
a. Original Share capital of XY Ltd. 10,00,000
[10,000 equity shares of Rs. 100 each]
b. Share capital of XY Ltd. after reduction 1,00,000
[10,000 equity shares of Rs. 10 each]
c. Share capital of XY Ltd. after reconsolidation 1,00,000
[1000 equity shares of Rs. 100 each]
d. Holding of AB Ltd in XY Ltd. 20%
e. Value of holding of AB Ltd in XY Ltd. 20,000
[200 equity shares of Rs. 100 each]

173
WN # 2 : Purchase consideration
a. No. of equity shares of AB Ltd. (20,00,000 ÷100) 20,000
b. Exchange ratio 1:1
c. No. of equity shares to be given by XY Ltd. to AB Ltd. 20,000
d. Less : No. of Equity shares held by AB Ltd. in XY Ltd. 200
e. No. of shares now to be given 19,800
f. Purchase consideration (19,800 equity shares of Rs. 100 each) 19,80,000
Part - II : Journal entries in the books of AB Ltd.
(Rs. ‘000)
1. a. Transfer to realisation account of all Assets taken
over except investment held by selling company in
purchasing company
Realisation A/c Dr. 3,800
To Fixed assets A/c 2,700
To Investments [700 - 250] A/c 450
To Sundry Debtors A/c 400
To Cash and Bank A/c 250
b. Transfer to realisation account of all liabilities taken over
10% Debentures A/c Dr. 500
Loan from ﬁnancial institations A/c Dr. 250
Sundry Creditors A/c Dr. 300
Proposed Dividend A/c Dr. 200
To Realisation A/c 1250
2. Purchase consideration
a. Due entry
XY Ltd. A/c Dr. 1,980
b. Receipt
Shares in XY Ltd. A/c Dr. 1,980
To XY Ltd. A/c 1,980
3. Transfer of realisation loss to share holders
Equity shareholders A/ c Dr. 570
To Realisation A/c 570
4. Transfer of Share capital and Reserves and surplus to equity share holders
Share capital A/c Dr. 2,000
Reserves and surplus A/c Dr. 800
To Equity shareholders 2,800
5. Settlement to share holders by transfer of purchase
consideration now received and shares already held
by AB Ltd. in XY Ltd.
Equity shareholders A/c Dr. 2,230
To Equity shares of XY Ltd. 2,230

174
Part. III. Journal entries in the books of XY Ltd.
(Rs. ‘000)
1. Reduction of Share capital
Equity Share Capital (Rs. 100) A/c Dr. 1,000
To Equity Share Capital (Rs. 10) A/c 100
To Reconstruction A/c 900
2. Consolidation of equity shares of Rs.10 each to Rs. 100 each
Equity Share Capital (Rs. 10) A/c Dr. 100
To Equity Share Capital (Rs. 100) A/c 100
3. Waiver of loan by financial institution
Loan from financial institution A/c Dr. 60
To Reconstruction A/c 60
4. Write off the debit balance of Profit and Loss A/c by utilising
Reconstruction A/c and balance of Reconstruction A/c
transferred to Capital reserve
Reconstruction A/c Dr. 960
To Profit and Loss A/c 800
Entries relating to Amalgamation :
• Method of Accounting - Pooling of Interest Method
(Rs. ‘000)
1. For Purchase Consideration Due
To Liquidator of AB Ltd. A/c 1,980
2. For assets and liabilities taken over
Purchase consideration now paid 1,980
Shares already held by AB Ltd. 250
Total consideration 2,230
Less: Paid-up Share capital of AB Ltd. 2,000
Excess Purchase Consideration Paid 230
This excess is to be adjusted against reserves of AB Ltd.
Reserves of AB Ltd. 800
Less: Excess as above 230
Balance to be incorporated 570

175
Fxed assets (net of depreciation) A/c Dr. 2,700
Investment A/c Dr. 450
Sundry Debtors A/c Dr. 400
Cash and Bank A/c Dr. 250
To Reserves and Surplus A/c 570
To Debentures A/c 500
To Loan from ﬁnancial institutions A/c 250
To Sundry Creditors A/c 300
To Proposed Dividend A/c 200
3. Discharge of purchase consideration
Liquidator of AB Ltd. A/c Dr. 1,980
To Equity Share capital of XY Ltd. A/c 1,980
4. Payment of proposed divided to shareholders of AB Ltd.
Proposed Dividend A/c Dr. 200
To Bank A/c 200
5. Cancellation of inter company owings
Sundry Creditors A/c Dr. 100
To Sundry Debtors A/c 100
Balance sheet of Z Ltd. as on 31st March 09
(After Acquisition)
(Rs.’000)
Rs. Rs.
Share capital Fixed assets net of depreciation 3,550
20,800 equity shares @ [2,700 + 850]
Rs.100/- each [1980+20+80] 2,080
Reserves and surplus Investments [700-250] 450
Capital reserves 160 Sundry debtors [400 + 150 – 100] 450
General reserves 570
Secured loan :
10% Debentures 500
Loan from Finanacial
Institution (340 + 250) 590
Bank over draft
[200+100-250] 50
provisions
Creditors [600-100) 500
4,450 4,450

176
IX. External Reconstruction
Problem - 37
A Ltd. is engaged in the manufacture of D and N. It has two wholly owned subsidiaries. B Ltd. and C Ltd.
which have never traded. The draft financial statement of parent company shows:
Balance Sheet as on 31st March, 2009
Share Capital 40,000 Fixed Assets 21,400
Reserves and surplus 48,800 Investment in B Ltd. 10,000
Secured loan 12,000 Investment in C Ltd. 10,000
Sundry creditors 90,000 Current assets
Owing to subsidiaries 20,000 Stock and Work-in-progress 43,400
Proposed dividend 4,000 Sundry debtors 9,360
Cash at bank 36,400
2,14,800 2,14,800
Profit and Loss Account for the year ended 31st March, 2009
Rs.
Net Profit 37,200
Dividend Paid 4,000
Transfer to Reserve 33,200
The two managing directors Mr. Kali and Mr. Prem who own 40% and 60% respectively of the Share
capital of A Ltd. will become individually concerned with B Ltd. and C Ltd. respectively in order to allow
them to develop their own interests.
They have agreed to a scheme of reconstruction whereby the respective trade and assets apart from cash
at bank and liabilities will be transferred to the two subsidiaries. The resulting inter-company debts will be
waived and A Ltd. will be placed into liquidation. The liquidator will retain Rs. 5,200 of the cash at bank to
meet the costs of liquidation and reorganisation and pay dividend. He will distribute the remaining cash
at bank and shares in two subsidiaries to A Ltd’s shareholders Mr. Kali and Mr. Prem.
As far as his cash distribution pool permits, each director will then purchase, at net assets value, those
shares in his own company distributed by the liquidator to his former colleague. It has been agreed that
B Ltd. will receive a first tranch of the assets of A Ltd. comprising stock and work in progress of Rs. 15,000.
C Ltd. will take over the liability for the Secured Loan. The remainder of the net assets will be transferred to
the subsidiary companies in the ratio of 75% to B Ltd. and 25% of C Ltd. with the group freehold property,
included in the Fixed assets at Rs. 15,000 being revalued at the open market value of Rs. 42,000 and being
transferred to C Ltd.as a part of its share.
a. Produce the proforma balance sheets of the two former subsidiary immediately after
reorganisation.
b. Calculate the final share holdings in each of the two companies.

177
Solution:
Purchase Consideration:
Particulars B Ltd. C Ltd.
Rs. Rs.
Stock in trade 15,000 —
Secured Loan — (12,000)
Remaining Net Assets in the Ratio of 75:25 (WN#1) 60,300* 20,100*
75,300 8,100
Total Purchase Consideration Rs. 83,400
WN # 1 : Net Asset Value:
Particulars Rs. Rs.
a. Fixed Asset: 15,000
Add: Increase due to Revaluation 27,000
Others (21,400 – 15,000) 6,400 48,400
b. Stock and Work-in-progress 43,400
Less: Separately taken by B Ltd. 15,000 28,400
c. Sundry Debtors 93,600
d. Total Assets (a+b+c) 1,70,400
e. Sundry Creditors (90,000)
f. Net Assets 80,400
g. B Ltd. Share (75% of Net Assets) 60,300
h. A Ltd. Share (25% of Net Assets) 20,100
Shareholders Account
Dr. Cr.
Kali Prem Kali Prem
(40%) (60%) (40%) (60%)
To Cash 12,480@ 18,720@ By Share capital 16,000 24,000
To B Ltd. 33,360 By Reserve 19,520 29,280
To C Ltd. 50,040 By Realisation (Proﬁt) 10,320# 15,480#
45,840 68,760 45,840 68,760
Cash
Particulars Amount
Opening balance 36,400
Retained by liquidator (5,200)
Closing balance 31,200
Kalii’s share [40% of (c)] 12,480
Prem’s share [60% of (c)] 18,720

178
# Realisation Proﬁt
Particulars Amount
Dividend 4,000
Revaluation on Fixed assets (42,000 – 15,000) 27,000
Liquidation expenses: (5,200)
Net realisation proﬁt 25,800
Kali [40% of (d)] 10,320
Prem [60% of (d)] 15,480
WN # 2 : Statement showing Goodwill or Capital Reserves
Particulars B Ltd. C Ltd.
(Rs.) (Rs.)
a. Purchase Consideration 75,300 8,100
b. Less: Net Assets as at the date of acquisition
representedby : 10,000 10,000
- Share capital
c. Goodwill 1,900
d. Capital Reserves 65,300
Proforma Balance Sheet of B Ltd. as on 31st March, 2009.
Rs. Rs.
Share Capital 10,000 Fixed Assets 6,400
Reserves and Surplus 65,300 Current Assets:
Current liabilities Stocks and Work-in-Progress 43,400
Creditors 68,100 Debtors 93,600
1,43,400 1,43,400
Proforma Balance Sheet of C Ltd. as on 31st March, 2009.
Rs. Rs.
Share Capital 10,000 Fixed assets 42,000
Secured Loan 12,000 Goodwill 1,900
Current liabilities 21,900
43,900 43,900

179
X. Surrender of Shares
Problem - 35
The business of P Ltd. was being carried on continuously at losses. The following are the extracts from the
Balance Sheet of the Comapny as on 31st March, 2009.
Balance Sheet as on 31st March, 2009
Rs. Rs.
Authorised, Issed and Goodwill 50,000
Subscribed Capital : Plant 3,00,000
30,000 Equity Shares of Rs. 10 Loose Tools 10,000
each fully paid 3,00,000 Debtors 2,50,000
2,000 8% Cumulative Pref. Stock 1,50,000
Shares of Rs. 100 each fully paid 2,00,000 Cash 10,000
Securities Premium 90,000 Bank 35,000
Unsecured Loan(From Director) 50,000 Preliminary Expenses 5,000
Sundry creditors 3,00,000 Proﬁt Loss Account 2,00,000
Outstanding Expenses 70,000
(including Directors’
remuneration Rs.20,000)
10,10,000 10,10,000
Note : Dividends on Cumulative Preference Shares are in arrears for 3 years.
The following scheme of reconstruction has been agreed upon and duly approved by the Court.
1. Equity shares to be converted into 1,50,000 shares of Rs. 2 each.
2. Equity shareholders to surrender to the Company 90 per cent of their holding.
3. Preference shareholders agree to forego their right to arrears to dividends inconsideration of which
8 percent Preference Shares are. to be converted into 9 per cent Preference Shares.
4. Sundry creditors agree to reduce their claim by one ﬁfth in consideration of their
getting shares of Rs. 35,000 out of the surrendered equity shares.
5. Directors agree to forego the amounts due on account of unsecured loan and
Director’s remuneration.
6. Surrendered shares not otherwise utilised to be cancelled.
7. Assets to be reduced as under :
Goodwill by Rs. 50,000
Plant by Rs. 40,000
Tools by Rs. 8,000
Sundry Debtors by Rs. 15,000
Stock by Rs. 20,000
8. Any surplus after meeting the losses should be utili sed in writing down the value of the plant fur-
ther.

180
9. Expenses of reconstruction amounted to Rs. 10,000.
10. Further 50,000 Equity shares were issued to the existing members for increasing the working capital.
The issue was fully subscribed and paid-up.
A member holding 100 equity shares opposed the scheme and his shares were taken over by the Director
on payment of Rs. 1,000 as ﬁxed by the Court.
You are required to pass the journal entries for giving effect to the above arrangement and also to draw
up the resultant Balance Sheet of the Company.
Solution:
Rs. Rs.
a. Sub Division of Shares
Equity Share Capital (Rs. 10 each) A/c Dr. 3,00,000
To Equity Share Capital (Rs. 2 each) A/c 3,00,000
b. Surrender of Shares
Equity Share Capital (Rs. 2) A/c Dr. 2,70,000
To Shares Surrendered A/c 2,70,000
c. Conversion of Preference Share Capital
8% Cumulative Preference Share Capital A/c Dr. 2,00,000
To 9% Cumulative Preference Share Capital A/c 2,00,000
d. Surrendered shares issued to creditors
under reconstruction scheme
Shares Surrendered A/c Dr. 35,000
e. Expenses Paid
Expenses A/c Dr. 10,000
To Bank A/c 10,000
f. Cancellation of unissued surrendered shares
Shares Surrendered A/c Dr. 2,35,000
To Capital Reduction A/c 2,35,000
g. Amount sacriﬁced by Directors
Unsecured Loan A/c Dr. 50,000
Sundry Creditors A/c Dr. 60,000
Outstanding Expenses A/c Dr. 20,000
To Capital Reduction A/c 1,30,000
h. Assets Written off
Capital Reduction A/c Dr. 3,65,000
To Goodwill A/c 50,000
To Loose tools A/c 8,000
To Sundry debtors A/c 15,000

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Rs. Rs.
To Stock - in - trade A/c 20,000
To Preliminary expenses A/c 5,000
To Expenses A/c 10,000
To Plant A/c 57,000
i. Issue of Shares
Applications received
Bank A/c Dr. 1,00,000
To Share Application A/c 1,00,000
Allotment of Shares
Share Application A/c Dr. 1,00,000
To Share Capital A/c 1,00,000
(Being 50000 equity shares of Rs. 2 each
issued as fully paid as per Board’s
Resolution dated... )
Note 1 : a. Cancellation of Preference dividend need not be journalised; on cancellation it cease to be
contingent liability and hence no further disclosure.
b. Preference shareholders have to forego policy rights presently enjoyed at par with Equity
Shareholders.
Note 2 : The transfer of 100 shares by the dissentient shareholders to the director concerned need not
be journalised.
Note 3 : It has been assumed that the share premium account is to be kept infact since the scheme is
silent about it.
Balance Sheet of P Ltd (And Reduced) as on 31st March 2009.
Liabilities Amount Amount Assets Amount Amount
Rs. Rs. Rs. Rs.
Share capital Fixed assets
Authorised Goodwill 50,000
1,50,000 Equity shares of 3,00,000 Less: Amount written off
Rs. 2 each under the scheme of
reconstruction 50,000 Nil
2000 9% Preference shares Plant 3,00,000
of Rs.100 each 2,00,000 Less: Amount written
off under the scheme of

182
Rs. Rs.
reconstruction 57,000 2,43,000
Issued, subscribed and Current assets, Loans
paid up Advances
82,500 Equity Shares of Rs. 10 Loose tools. 2,000
each fully paid Stock-in-trade 1,30,000
(Of the above 17,500 Sundry Debtors 2,35,,000
shares have been issued for Cash at Bank 1,25,000
consideration other than cash Cash in Hand 10,000
under the scheme of 1,65,000
reconstruction)
20,000 9% Cumulative preference
shares of Rs. 100 each fully paid 2,00,000
Reserves and surplus:
Share Premium 90,000
Secured Loans Nil
Unsecured Loans Nil
provisions:
Outstanding expenses 50,000
7,45,000 7,45,000
XI. Demerger
Problem - 36
The following is the Balance Sheet of P Ltd.
Liabilities Rs.
Equity Share Capital 2,00,000
Reserves and Surplus 4,00,000
Secured Loan 2,00,000
Unsecured Loans 6,00,000
14,00,000

183
Assets Rs. Rs.
Fixed Assets 7,00,000
Investments 4,00,000
(Market Value Rs. 9,00,000)
Current Assets 4,00,000
Less: Current liabilities (1,00,000) 3,00,000
14,00,000
The company consists of three divisions. The scheme was agreed upon, according to which a new com-
pany B Ltd. is to be formed. It will takeover investmen.ts at Rs. 9,00,000 and unsecured loans at balance
sheet value. It is to allot equity shares of Rs.10 each at par to the shareholders of P Ltd. in satisfaction of
the amount due under the arrangement. The scheme was duly approved by the High Court. Pass journal
entries in the books of P Ltd.
Solution:
In the Books of P Ltd.
Rs. Rs.
1. B Ltd. A/c Dr. 9,00,000
To Investments A/c 4,00,000
[Being investments transferred at agreed value of
Rs. 9,00,000]
2. Unsecured Loans A/c Dr. 6,00,000
To B Ltd. A/c 6,00,000
[Being unsecured loan taken over by B Ltd.]
To B Ltd. A/c 3,00,000
[Being allotment by B Ltd. of 30,000 Equity shares
of Rs. 10 each to shareholders of the company]
To Capital Reserve 2,00,000
[Being balance in Shareholders A/c transferred to
Capital Reserve]
Problem - 37
B Ltd. carried on manufacturing business. Its products were sold to wholesalers and the company had
its own retail shop. A Ltd. carried on similar manufacturing business, but all goods produced were sold
through the company’s own retail shops.
The summarised Balance Sheets of the two companies as at 31st March, 2009 were as follows:

184
Liabilities B Ltd. A Ltd. Assets B Ltd. A Ltd.
Rs. Rs. Rs. Rs.
Share capital Fixed assets:
Authorised Equity 40,00,000 6,00,000 Freehold 10,00,000 2,50,000
Shares of Rs. 100 each Properties at cost
Issued and Fully 25,00,000 6,00,000 Plant and
paid up Machinery at cost 13,00,000 1,00,000
Proﬁt and Loss A/c 3,40,000 90,000 less depreciation
Creditors 4,20,000 70,000 Current assets:
Stock 4,80,000 1,20,000
Debtors 2,30,000 80,000
Bank 2,50,000 2,10,000
32,60,000 7,60,000 32,60,00 7,60,000
The original cost of Plant and Machinery was :
B Ltd. Rs. 26,00,000
A Ltd. Rs. 2,00,000
The following arrangements were made and carried out on April 1, 2009:
1. B Ltd. purchased from the shareholders of A Ltd. all the issued shares @ Rs. 140 per share.
2. The shareholders of A Ltd. took over one of the freehold properties of A Ltd. for Rs.60,000, at the book
value of the same. It was agreed that the amount should be set off against the amount due to them
under (1) above and the balance due to them to be satisﬁed by the issue of an appropriate number of
equity shares in B Ltd. at Rs. 195 per share.
The necessary transfer in regard to the setting off the price of the property taken over by the shareholders
against the amount due to them from B Ltd. were made in the books of the two companies.
3. All manufacturing was to be carried on by B Ltd. and all retail business is to be carried on by A Ltd.
in this connection.
i. B Ltd. purchased the whole of A Ltd’s plant and machinery for Rs. 1,50,000 and certain of their
free-hold property (cost Rs. 1,00,000) at Rs. 1,20,000.
ii. A Ltd. purchased B Ltd’s freehold retail shop buildings (cost to B and Co. Ltd. Rs.75,000) at Rs.
60,000 and took over the retail stock at Rs. 80,000 at the book value.
4. B Ltd. drew a cheque in favour of A Ltd. for the net amount due, taking into account all the matters
mentioned above.
5. Immediately after the transfer of shares in (1) above, A Ltd. declared and paid a dividend of Rs. 60,000
(Ignore income tax)

185
Draft the balance sheet of both the companies immediately after the completion of the transaction.
Solution:
In the books of B Ltd
Calculation of purchase consideration and Number of shares to be issued
Particulars Amount
a. Number of Equity shares of A Ltd. 6,000
b. Purchase price of B Ltd. per share Rs. 140
c. Purchase consideration (6,000 x 140) Rs. 8,40,000
d. Value of Freehold property to be adjusted against the Rs. 60,000
consideration due
e. Net Consideration (c – d) Rs. 7,80,000
f. Issue price per share of B Ltd. Rs. 195
g. Number of shares to be issued (e ÷ f) 4,000
Freehold Properties Account
Dr. Cr.
To Balance b/d 10,00,000 By A Ltd. 60,000
To A Ltd. 1,20,000 By Proﬁt and Loss A/c 15,000
11,20,000 11,20,000
* Loss on sale of freehold retail shop building (Rs. 60,000 - Rs. 75,000)
Plant and Machinery Account
Dr. Cr.
To A and Co (P) Ltd. 1,50,000
14,50,000 14,50,000
Investment in A Ltd. Account
Dr. Cr.
To Share capital 4,00,000 By Bank A/c 60,000
To Securities Premium 3,80,000 [Pre-acquisition Dividend)
To A Ltd. 60,000 By Balance c/d 7,80,000
8,40,000 8,40,000

186
Stock Account
Dr. Cr.
To Balance b/d 4,80,000 By A Ltd. 80,000
4,80,000 4,80,000
A Ltd. Account
Dr. Cr.
To Freehold property A/c 60,000 By Freehold Property A/c 1,20,000
To Stock Al/c 80,000 By Plant and Machinery A/c 1,50,000
To Bank (Net amount due to 1,90,000 By Investment in A Ltd. A/c 60,000
A Co., paid by way of
cheque)
3,30,000 3,30,000
Bank Account
Dr. Cr.
To Balance b/d 2,50,000 By A Ltd. 1,90,000
To Investment in A Ltd. A/c By Balance c/d 1,20,000
(Pre-acquisition 60,000
Dividend)
3,10,000 3,10,000
Proﬁt Loss Account
Dr. Cr.
To Freehold Property A/c 15,000 By Balance b/d 3,40,000
To Balance c/d 3,25,000
3,40,000 3,40,000
Share Capital Account
Dr. Cr.
To Balance c/d 29,00,000 By Balance b/d 25,00,000
By Investment in A Ltd. 4,00,000
29,00,000 29,00,000

187
Securities Premium Account
Dr. Cr.
To Balance c/d 3,80,000 By Investment in A Ltd. 3,80,000
3,80,000 3,80,000
Balance Sheet of B Ltd. as on 31/03/2009
Share Capital Fixed Assets
[Authorised 40,000 40,00,000 Freehold Properties 10,45,000
shares of Rs. 100 each] Plant and Machinery less dep. 14,50,000
Issued, Subscribed and Paid up Investment
29,000 shares of Rs. 100 each Shares in Subsidiary Co. 7,80,000
fully paid Current assets, Loans and
(of which 4,000 shares were Advances :
issued pursuant to a contract 29,00,000 Stock in trade 4,00,000
without payment being Sundry debtors 2,30,000
received in cash) Cash at Bank 1,20,000
Reserves and Surplus :
Securities Premium A/c 3,80,000
Profit and Loss A/c 3,25,000
Provisions :
Sundry Creditors 4,20,000
40,25,000 40,25,000
In the books of A Ltd.
Dr. Cr.
To Dividend 60,000 By Balance b/d 90,000
To Balance c/d 1,00,000 By Freehold Properties A/c 20,000
(Profit on transfer)
By Plant Machinery A/c 50,000
(Profit on transfer)
1,60,000 1,60,000

188
Freehold Properties Account
Dr. Cr.
To Balance b/d 2,50,000 By B Ltd. A/c 1,20,000
To Proﬁt and Loss A/c 20,000 By Shareholder A/c 60,000
To B Ltd. A/c 60,000 By Balance (c/d) 1,50,000
3,30,000 3,30,000
Plant and Machinery Account
Dr. Cr.
To Balance b/d 1,00,000 By B Ltd. A/c 1,50,000
1,50,000 1,50,000
Stock Account
Dr. Cr.
To B Ltd. 80,000
2,00,000 2,00,000
Bank Account
Dr. Cr.
To Balance b/d 2,10,000 By Dividend A/c 60,000
To B Ltd. A/c 1,90,000 By Balance c/d 3,40,000
4,00,000 4,00,000
B Ltd. Account
Dr. Cr.
To Freehold properties 1,20,000 By Stock A/c 80,000
To Plant and Machinery 1,50,000 By Bank A/c 1,90,000
2,70,000 2,70,000

189
Balance Sheet of A Ltd. as on 31.03.2009
Share capital : Fixed assets
Authorised 6,000 shares of 6,00,000 Freehold Properties 1,50,000
Rs. 100 each
Issued, subscribed and paid up Current assets, Loans and
6,000 shares of Rs. 100 each 6,00,000 Advances:
fully paid Stock in trade 2,00,000
Reserves and surplus : Sundry debtors 80,000
Profit and Loss A/c 1,00,000 Cash at Bank 3,40,000
Provisions :
7,70,000 7,70,000
Problem - 38
Lazy Ltd. and Yummy Ltd. are two companies. On 31st March, 2009 their Balance Sheets were as under :
(Rs. in crores)
Lazy Ltd. Yummy Ltd.
Sources of funds
Share capital
Authroised : 500 500
Issued : Equity shares of Rs. 100
each fully paid up 300 200
Reserves and surplus.
Capital reserves 40 20
Revenue reserves 700 425
Surplus 10 750 5 450
Owners’ funds 1,050 650
Loan 250 350
Total 1,300 1,000
Funds’ employed in :
Fixed assets :
Cost 1,000 700
Less : Depreciation (400) 600 (300) 400
Net Current assets :
Current assets 2,000 1,500
Less : Current liabilities (1,300) 700 (900) 600
1,300 1,000
Lazy Ltd. has 2 divisions - very profitable division A and loss making division B. Yummy Ltd. similarly
has 2 divisions-very profitable .division B and loss making division A.

190
The two companies decided to reorganise. Necessary approval’s from creditors and members and sanction
by High Court have been obtained to the following scheme.
1. Division B of Lazy Ltd. which has Fixed assets costing Rs. 400 crores (written down value Rs. 160
crores). Current assets Rs. 900 crores, Current liabilities Rs. 750 crores and loan funds of Rs. 200 crores
is to be transferred at Rs. 125 crores to Yummy Ltd.
2. Division A of Yummy Ltd. which has Fixed assets costing Rs. 500 crores (depreciation Rs.200 crores),
Current assets Rs.800 crores Current liabilities Rs. 700 crores and loan funds Rs.250 crores is to be
transferred at Rs.140 crores to Lazy Ltd.
3. The difference in the two consideration is to be treated as loan carrying interest at 15% per annum.
4. The directors of each of the companies revalued the Fixed assets taken over as follows :
i. Division A of Yummy Ltd. taken over: Rs. 325 crores.
ii. Division B of Lazy Ltd. taken over: Rs. 200 crores.
All the other assets and liabilities are recorded at the Balance sheet values.
a. The directors of both the companies ask you to prepare the Balance sheets after reconstruction (showing
the corresponding ﬁgures before reconstruction).
b. Mr. Pravin, who owns 5,000 equity shares of Lazy Ltd. and 3,000 equity shares of Yummy Ltd. wants
to know whether he has gained or lost in terms of net asset value of equity shares on the above
recognisation.
Solution :
Lazy Ltd. Yummy Ltd.
Division A Division B Division A Division B
Rs. 125 Cr. Rs. 140 Cr.

191
Books of Lazy Ltd.
A. Transfer of Division B
(Rs. in Crores)
i. Due Entry :
Yummy Ltd A/c Dr. 125
Current liabilities A/c Dr. 750
Loan Funds A/c Dr. 200
Provision for Depreciation A/c Dr. 240
To Fixed Assets A/c 400
To Current Assets A/c 900
ii. Receipt of consideration - Not Applicable
B. Take over of division A of Yummy Ltd.
i. Due Entry :
To Yummy Ltd. A/c 140
ii. Incorporation of Assets and Liabilities taken over :
Fixed assets A/c Dr. 325
Current assets A/c Dr. 800
To Current liabilities A/c 700
To Loan A/c 250
iii. Discharge of consideration - Not Applicable
Balance Sheet of Lazy Ltd. on 31.03.09
Rs. in Crores
@ * @ *
Share capital 300 300 Fixed Assets
Reserves and surplus Cost (600 + 375) 925 1,000
Capital Reserve [40+15+35] 90 40 Less : Depreciation (160) (400)
Revenue Reserves 700 700 Net Block 765 600
Surplus 10 10 Current Assets 1,900 2,000
Loan funds [250+250–200] 300 250
15% Loan - Yummy Ltd. 15 -
Current liabilities 1,250 1,300
2,655 2,600 2,665 2,600
@ Before Reconstruction * After Reconstruction

192
Part - II Books of Yummy Ltd.
A. Transfer of Division A to Lazy Ltd.
(Rs. in Crores)
Lazy Ltd. A/c Dr. 140
Loan A/c Dr. 250
Capital reserve A/c [balancing ﬁgure] Dr. 10
ii. Receipt of consideration - Not applicable
B. Take over of division B of Lazy Ltd.
(Rs. in Crores)
Business purchase A/c Dr. 125
To Lazy Ltd. A/c 125
ii. Incorporation of assets and liabilities taken over :
Currnt Assets A/c Dr. 900
To Loan A/c 200
iii. Discharge of consideration - Not Applicable
Balance Sheet of Yummy Ltd. as on 31st March, 2009
Rs. in Crores
@ * @ *
Share capital 200 200 Fixed Assets :
Reserves and surplus Cost 400 700
Capital Reserve 35 20 Less : Depreciation (100) (300)
Revenue Reserves 425 425 Net Block 300 400
Surplus 5 5 Current Assets 1,600 1,500
Loan 300 350 15% Loan 15 -
Current liabilities 950 900
1,915 1900 1,915 1900
@ Before Reconstruction * After Reconstruction

193
Evaluation of Mr. Pravin’s Investment
Rs. in Crores
Lazy Ltd. Yummy Ltd
Before After Before After
Reconstruction Reconstruction Reconstruction Reconstruction
a. Total assets (Rs. Corers) 1300 1415 1000 965
b. Outside liabilities (Rs. Corers) 250 315 350 300
c. Net Assets (Rs. Corers) 1050 1100 650 665
d. Number of shares (in Corers) 3 3 2 2
Outstanding
e. Intrinsic Value (Rs. Per Share)[c/d] 350 367 325 332.50
f. Number of shares held 5,000 5,000 3,000 3,000
g. Value of shares held (Rs.) 17.5 Lakhs 18.35 Lakhs 9.75 Lakhs 9.975 Lakhs
h. Increase in value (Rs.) 85,000 22,500
i. Total increase in
value due to demerger Rs. 1,07,500
Problem - 39
The following is the Balance sheet of Diverse Ltd. having an authorised capital of Rs.1,000 Cr. as on
31st March, 2009:
(Rs. in crores)
Rs. Rs.
Sources of funds :
Shareholders’ funds
Share capital
Equity shares of Rs.1 0 each fully paid in cash 250
Reserves and surplus (Revenue) 750 1,000
Loan funds
Secured against : (a) Fixed assets Rs. 300 Cr.
(b) Working capital Rs. 100 Cr. 400
Unsecured 600 1,000
2,000
Employment of funds
Fixed Assets
Gross block 800
Less: Depreciation 200 600
Investment at cost (Market value Rs.1 ,000 Cr.) 400
Current assets 3,000
Less: Current liabilities (2,000) 1,000
2,000

194
Capital commitments: Rs. 700 crores.
The company consists of 2 divisions.
i. Established division whose gross block was Rs.200 crores and net block was Rs. 30 crores; Current
assets were Rs.1, 500 crores and working capital was Rs.1,200 crores; the entire amount being ﬁnanced
by shareholders’ funds.
ii. New project division to which the remaining Fixed assets, Current assets and Current liabilities
related.
The following scheme of reconstruction was agreed upon.
a. Two new companies Sunrise Ltd. and Khajana Ltd. are to be formed. The authorised capital of Sunrise
Ltd. is to be Rs. 1,000 crores. The authorised capital of Khajana Ltd. is to be Rs.500 crores.
b. Khajana Ltd. is to take over investments at Rs.800 crores and unsecured loans at balance sheet value.
It is to allot equity share of Rs. 10 each at par to the members of Diverse Ltd. in satisfaction of the
amount due under the arrangement.
c. Sunrise Ltd. is to take over the Fixed assets and net working capital of the new project division along
with the secured loans and obligation for capital commitments for which Diverse Ltd. is to continue
to stand guarantee at book values. It is to allot one crore equity shares of Rs. 10 each as consideration
to Diverse Ltd. Sunrise Ltd. . made an issue of unsecured convertible debentures of Rs.500 crores
carrying interest at 15% per annum and having a right to convert into equity shares of Rs. 10 each
at par on 31.3.2014. This issue was made to the members of Sunrise Ltd. as a right who grabbed the
opportunity and subscribed in full.
d. Diverse Ltd. is to guarantee all liabilities transferred to the 2 companies.
e. Diverse Ltd. is to make a bonus issued of equity shares in the ratio of one equity share for every equity
share held by making use of the Revenue reserves. .
Assume that the above scheme was duly approved by the Honourable High Court and that there are no
other transactions. Ignore taxation.
You are asked to :
i. Pass journal entries in the books of Diverse Ltd., and
ii. Prepare the balance sheets of the three companies giving all the information required by the Companies
Act, 1956 in the manner so required to the extent of available information.

195
Solution :
Part. I Basic Information
WN # 1 : Scheme of Reorganisation
DIVERSE Ltd.
Establish New Others
Division Project
Retained Transfer to Investments
Sun Rise Ltd. Unsercured Loans
Transfer to
Khajana Ltd.
Consideration
paid to Considertaion
Diverse Ltd. paid to members
of Diverse Ltd.
WN # 2 : Assets and Liabilities - Division Wise
(Rs. in crores)
Particulars Established New Project Others
Division Division
a. Fixed Assets:
i) Gross Block 200 600 -
ii) Accumulated depreciation (170) (30) -
iii) Net block 30 570 -
b. Investments - - 400
c. Net Current Assets
i) Current Assets 1500 1500 -
ii) Current liabilities (300) (1700) -
iii) Net Current Assets 1200 200 -
d. Secured loans - 400 -
e. Unsecured loans - - 600

196
WN # 3 : Purcahse considerations.
A. For transfer to Khajana Ltd. - Net Assets Method.
(Rs. in crores)
Particulars Amount
i) Investments 800
ii) Unsecured loans (600)
iii) Net assets 200
Share of Khajana Ltd.
issued to members of
Diverse Ltd.
B. For transfer to Sunrise Ltd. - Payment Method 10 Crores
1 crores shares of Rs. 10 each Issued to Diverse Ltd.
Part -II
Books of Khajana Ltd.
(Rs. in crores)
i. For Purchase Consideration Due:
To Shareholders of Diverse Ltd. 200
ii. For Assets and Liabiltiies taken over
Investment A/c Dr. 800
To Unsecured Loans 600
To Business Purchase 200
iii. For Discharge of purchase consideration
Shareholders of Diverse Ltd. A/c Dr. 200
To Equity Share capital A/c 200

197
Balance Sheet of Khajana Ltd. as on 01.04.2009
(Rs. in crores)
Authorised Share capital Investments at cost 800
Issued, subscribed and paid (Quoted investments with Market
up Equity capital of Rs. 10 Value of Rs. 1000 Crores)
each fully paid 200
(The above shares are issued
for consideration other than
cash)
Unsecurd Loans 600
(Guaranteed by Diverse Ltd.)
800 800
Part III : Books of Sunrise Ltd.
(Rs. in crores)
II. For Purchase Consideration Due:
Business purchase A/ c Dr. 10
To Diverse Ltd. 10
b. For assets and Liabilities taken over
Good will A/c (Balancing Figure) Dr. 40
Fixed Asset A/ c Dr. 570
To Secured loan A/c 400
c. For Discharge of purchase consideration
Diverse Ltd. A/c Dr. 10
To Equity Share capital 10
d. For Issue of unsecured convertible debentures
i. Bank A/c Dr. 500
To Debenture Application A/c 500
ii. Debenture Application A/c Dr. 500
To 15% Debenture A/c 500

198
Balance sheet of Sunrise Ltd as on 1st April, 2009
(Rs. in crores)
Authorised Share capital 1,000 Fixed assets:
Issued, subscribed and Paid-up - Goodwill 40
capital - Other Fixed assets 570
Equity Shares of Rs. 10 10
each fully paid-up Current assets:
(The above shares are issued for - Bank 500
consideration other than cash. The - Other Current assets 1,500
entire capital is held by Diverse Ltd)
Debentures 500
Secured Loan 400
Current liabilities and Provisions 1,700
2,610 2,610
Note : 1. Capital commitments: Rs. 700 crores.
2. Secured Loans and Current liabilities guaranteed by M/s. Diverse Ltd.
Part - IV Books of Diverse Ltd.
(Rs. in crores)
1. Transfer to Khajana Ltd.
Khajana Ltd. A/c Dr. 200
Unsecured Loans A/c Dr. 600
To Investments A/c 400
To Capital reserve A/c 400
ii. Cancellation of balance in Khajana Ltd. not
receivable, since consideration is paid directly to
members :
Capital Reserve A/c Dr. 200
To Khajana Ltd. 200
2. Transfer to Sunrise Ltd :
i. For purchase consideration Due:
Sunrise Ltd A/c Dr. 10
Secured Loan A/c Dr. 400
Provision for depreciation A/c Dr. 30
To Fixed Asset A/c 600

199
ii. Receipt of consideration
Equity shares of Sunrise Ltd. Dr. 10
To Sunrise Ltd. 10
iii. Others
a. Subscripiton to unsecured convertible
debenture of Sunrise Ltd.
Investments in Debenture of Sunrise Ltd. A/c Dr. 500
To Bank 500
b. Bonus issue
i. Revenue Reserves A/c Dr. 250
To Bonus to Shareholders A/c 250
ii. Bonus to Share holders A/c Dr. 250
Balance Sheet of Diverse Ltd.
Authorised, issued, subscribed Fixed assets
and fully paid equity shares of Gross Block 200
Rs.10 each Less: Depreciation
(out of which 25 crores Equity 500 Net Block
shares are issued for consideration Investment (Un quoated)
other than cash) - Shares of Sunrise 10
Reserve Surplus : - Debentures of Sunrise 500 510
Capital reserve 240 Current assets Loans and 1,000
Revenue reserve 750 Advances
Less: Bonus Issue (250) 500
Current liabilities and 300
Provisions
1,540 1,540
Capital committment by Sunrise Ltd. Rs. 700 Crores, Guarantees given in respect of liabilities transferred
to Sunrise Ltd, and Khajana Ltd. amounting to Rs. 2100 Crores and Rs. 600 Crores respectively.

200
Problem - 40
The Balance Sheet of Z Ltd. as at 31st March, 2008 is given below. In it, the respective shares of the company’s
two divisions namely “S” Division and “W” Division in the various assets and liabilities have also been
shown.
(All amounts in crores of Rupees)
S Division W Division Total
Fixed assets :
Cost 875 249
Less : Depreciation 360 81
Written-down value 515 168 683
Investments 97
Current assets 445 585
Less: Current liabilities (270) (93)
175 492 667
1,447
Financed by :
Loan funds 15 417
Own funds
Equity Share capital : Shares of Rs. 10 each 345
Reserves and surplus 685
1,447
Loan funds included, inter alia, bank Loans of Rs. 15 crore speciﬁcally taken for W Division and Debentures
of the paid up value of Rs. 125 crore redeemable at any time between 1st October, 2007 and 30th September,
2008.
On 1st April, 2008 the company sold all of its investments for Rs. 102 crore and redeemed all the debentures
at par, the cash transactions being recorded in the Bank Account pertaining to S Division.
Then a new company named Y Ltd. was incorporated with an authorized capital of Rs. 900 crore divided
into shares of Rs. 10 each. All the assets and liabilities pertaining to W Division were transferred to the
newly formed company; Y Ltd, allotting to Z Ltd’s shareholders its two fully paid equity shares of Rs. 10
each at par for every fully paid equity share of Rs. 10 each held in Z Ltd. as discharge of consideration for
the division taken over.
Y Ltd. recorded in its books the Fixed assets at Rs. 218 crore and all other assets and liabilities at the same
values at which they appeared in the books of Z Ltd.
i. Show the journal entries in the books of Z Ltd.

201
ii. Prepare Z Ltd’s Balance Sheet immediately after the demerger and the initial Balance Sheet of Y Ltd.
(Schedules in both cases need not be prepared).
iii. Calculate the intrinsic value of one share of Z Ltd. immediately before the demerger and immediately
after the demerger; and
iv. Calculate the gain, if any, per share to the shareholders of Z Ltd. arising out of the demerger.
Solution :
Journal entries in the books of Z Ltd.
(Rs. crores)
a. Bank A/c Dr. 102
To Investments A/c 97
To Proﬁt Loss A/c 5
[Being sale of investments and proﬁt realised thereon]
b. Debenture A/c Dr. 125
To Bank A/c 125
[Being redemption of debentures at par]
c. Bank Loan A/c Dr. 15
Reserves and Surplus A/c Dr. 645
[Being assets and liabilities of W Division transferred
to Y Ltd.]

202
Balance Sheet of-Z Ltd. After Demerger as on 01.04.08.
(Rs. in crores)
Share capital : Fixed Assts:
Issued, subscribed and Cost 875
fully paid up Equity Shares Less : Provision for Dep. (360)
of Rs. 10 each 345 515
Reserves and surplus Current assets (WN # 3) 422
Revenue reserves (WN # 1) 45
Loan Funds (WN # 2) 277
Provisions :
Current liabilities 270
(pertaining to S Division)
937 937
WN # 1: Revenue Reserves
Particulars Rs. in
Crores
Balance as 31.03.2008 685
Add : Proﬁt on sale of investment 5
Less: Loss on demerger (645)
Balance as on 01.04.2008 45
WN # 2 : Loan Funds
Particulars Rs. in
Crores
Balance as 31.03.2008 417
Less: Bank Loan transferred to Y Ltd. (15)
Less: Debentures redeemed (125)
Balance as on 01.04.2008 277
WN # 3: Current Assets
Particulars Rs. in
Crores
Balance as 31.03.2008 445
Add: Cash received on sale of investments 102
Less: Cash paid on redemption of debentures (125)
Balance as on 01.04.2008 422

203
Balance sheet of Y Ltd. as on 01.04.2008
(Rs in crores)
Share capital Fixed assets (given) 218
Authorised Capital 900 Current assets 585
Equity Shares of Rs. 10 each
Issued, Subscribed and Paid-up
Capital of Equity Shares of Rs. 10
each (345 ×½) 690
(The above shares were issued for
a consideration other than cash)
Capital reserves (WN # 4)
Secured Loan
Loan Fund 5
Bank Loan 15
Current liabilities and Provisions
Total 803 Total 803
WN # 4 : Capital Reserves
Particulars Rs. in Crores Rs. in Crores
i. Purchase consideration 690
ii. Less: Net Assets taken Over
Assets taken over (218 + 585) 803
Less: Liabilities taken over (93+15) (108) (695)
iii. Capital reserves [(i) - (ii)} 5
Calculation of Intrinsic value per share before and after demerger
Rs. in Crores
Particulars Before After
Demerger Demerger
Fixed Assets 683 515
Net Current Assets (WN # 5) 644 152
Total assets 1,327 667
Less : Loan funds (WN # 6) (292) (277)
Net asset value 1,035 390
Number of shares 34.5 34.5
Intrinsic value per share [(v)+(vi)] Rs. 30 Rs. 11.30

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WN # 5 : Current Assets
Rs. in Crores
Demerger Demerger
Balance as per balance sheet 667 175
Less : Cash paid on redemption of debentures (125) (125)
Add : Cash received on sale of investments 102 102
644 152
WN # 6 : Loan Funds
Rs. in Crores
Demerger Demerger
Balance as per balance sheet 417 417
Less : Redemption of debentures (125) (125)
Less : Transfer of loan funds to Y Ltd. - (15)
292 277
IV. Gain per share to the shareholders of Z Ltd. arising out of the demerger :
For every share in Z Ltd, the shareholders will hold 2 shares in Y Ltd. also.
I. After demerger Rs.
i. Value of one share in Z Ltd. 11.30
ii. Value of two share in Y Ltd. (Rs. 10 x 2) 20.00
iii. Total Value after merger for each share 31.30
II. Before demerger
i. Value of one share in Z Ltd. before merger 30.00
III. Gain per share 1.30

205
XII. Sales of Division
Problem - 41
X Ltd. has 2 divisions A and B.
Division A has been making constant proﬁts while Division B has been invariably suffering losses. On 31st
March, 2009 the divisionwise Balance Sheet was:
(Rs. Crores)
A B Total
Fixed Assets cost 250 500 750
Depreciation 225 400 625
(i) 25 100 125
Current Assets: 200 500 700
Less: Current liabilities 25 400 425
(ii) 175 100 275
(i) + (ii) 200 200 400
Financed by :
Loan — 300 300
Capital : Equity Rs. 10 each 25 _ 25
Surplus 175 (100) 75
200 200 400
Division B along with its assets and liabilities was sold for Rs. 25 crores to Y Ltd. a new comapny, who
allotted 1 crore equity shares of Rs. 10 each at a premium of Rs. 15 per share to the memebers of B Ltd. in
full settlement of the consideration in proportion to their shareholding in the company.
Asssuming that there are no other transactions, you are asked to :
i. Pass journal entries in the books of X Ltd.
ii. Prepare the Balance Sheet of X Ltd. after the entires in (i).
iii. Prepare the Balance Sheet of Y Ltd.
Solution:
Part I - Books of A Ltd :
Basic Information :
A Ltd.
Division A Division B
Proﬁt Making Loss Making
Retained by X Ltd Assets and Liabilites
transferred to Y Ltd for
consideration of Rs. 25 Crores.

206
I. Journal Entries
(Rs. Crores)
i. Sale of Assets and Liabilities to Y Ltd.
Y Ltd A/c Dr. 25
Loan A/c Dr. 300
Provision for depreciation A/c Dr. 400
To Capital Reserve A/c (bal ﬁg) 125
ii. Receipt of consideration from B Ltd.
Equity shares in Y Ltd. Dr. 25
To Y Ltd. A/c 25
II.
Balance Sheet of X Ltd as at 31.3.2009
(Rs. in Crores)
Share capital: Fixed Assets
Authorised Equity shares of Gross Block Cost: 250
Rs. 10 each Less: Depreciation 225 25
issued and Subscribed 25 Investment in equity
Reserves and surplus shares of Y Ltd.
* Capital reserve 125 (Face Value of Rs. 10
* Proﬁt and Loss (Existing) 75 subscribed at a
Current liabilities 25 premium of Rs. 15 each 25
Current Assets 200
250 250
Note:
Division ‘B’ was sold to M/s. Y Ltd. The consideration received for the transfer was equity shares of Y Ltd.
of Rs. 10 each fully paid, issued at a premium of Rs. 15.
Total value of consideration = 1 Crore shares × (Rs. 10 + Rs. 15)
= 1 Crore × Rs. 25
= Rs. 25 Crores

207
Part II - In the books of Y Ltd.
Journal Entries
(Rs. in Crore)
a. For Business purchase
To X Ltd A/c 25
b. Assets and liabilities taken over
Goodwill A/c (Balancing Figure) Dr. 125
To Loan A/c 300
c. Discharge of liability
X Ltd A/c Dr. 25
To Securities premium A/c 15
Balance Sheet of M/s Y Ltd. as at 31.3.2009
(Rs. in Crores)
Share capital: Goodwill 125
Authorised Equity Shares of Rs. 10 each Fixed Assets 100
1 Crore Shares issued for consideration Current Assets 500
other than by way of cash 10
Reserves and surplues
Securities Premium 15
Loan 300
725 725
Note:
a) Goodwill due to business purchase should be amortized over a period of 5 years.
b) Fixed assets:
Gross Block 500
Less: Accumulated Depn. 400
Net Blcok 100

208
XIII. Impact of Reconstruction over Wealth of Investor and Company
Problem - 45
AB Ltd has 2 divisions - A and B. The Balance Sheet as at 31, October 2008 was as under:
(in Crores)
A B Total
Fixed assets
Cost 600 300 900
Depreciation 500 100 600
W.D.V. 100 200 300
Net Current Assets
Current Assets 400 300 700
Less: Current Liabilities 100 300 100 200 200 500
Total 400 400 800
Financed by:
Loans — 100 100
(Secured by a charge on Fixed assets) — 100 100
Own funds:
Equity capital 50
(Fully paid up Rs. 10 shares) 650
Reserves and surplus 700
Total 400 400 800
It is decided to form a new company B Ltd., to take over the assets and liabilities of B division.
According B. Ltd. was incorporated to take over at balance sheet figures, the assets and liabilities of that
division. B Ltd. is to allot 5 crores equity shars of Rs. 10 each in the company to the members of AB Ltd.,
in full settlement of the consideration. The members of AB Ltd. are therefore to become members of B Ltd.
as well without having to make any further investment.
a. You are asked to pass journal entries in relation to the above in the books of AB Ltd. and B. Ltd. Also
show the Balance Sheets of the 2 companies as on the morning of 1st November, 2008, showing cor-
responding previous year’s figures.
b. The directors of the 2 companies, ask you to find out the net asset value of equity shares pre and post
demerger.
c. Comment on the impact of demerger on “shareholders wealth”.

209
Solution:
Part I: In the Books of M/s. AB Ltd.
(Rs. in crores)
i. Transfer of assets and liabilities of Division B to B Ltd.
(a) For Purchase Consideration Due:
A Ltd. A/c Dr. 50
Loan funds A/c Dr. 100
Curent liabilities A/c Dr. 100
Povision for depreciation A/c Dr. 100
Profit and Loss A/c (balancing figure) Dr. 250
ii. Cancellation of balance in A Ltd. not receivable since
consideration is paid to members of AB Ltd. in full
Reserves A/c Dr. 50
To A Ltd. 50
Part II: In the Books of B Ltd.
(Rs in crores)
Rs. Rs.
To Shareholders of AB Ltd. A/c
ii. Assets and liabilities taken over
To Loan A/c 100
To Capital Reserve (balancing figure) 250
iii. Discharge of purchase consideration
Shareholders of AB Ltd. Dr. 50

210
Part III: Balance Sheet of two companies after reorganisation.
Balance Sheet of Z Ltd. as on 01.11.2008
(Rs. in crores)
Before Before Before
AB AB B Ltd.
Sources of Funds
i. Share capital 50 50 50
ii. Reserves and surplus
a. Capital Reserve Nil Nil 250
b. Revenue Reserve 650 *350 Nil
iii. Loan Funds 100 Nil 100
800 400 400
Application of Funds:
i. Fixed Asset
Gross Block 900 600 300
Less: Depreciation 600 500 100
Net Block 300 100 200
ii. Current assets (Net) 500 300 200
800 400 400
* Revenue reserve :
Opening balance- - 650
Less: Transfer to B Ltd. - (250)
Less: Cancel due from B Ltd. - (50)
Closing balance - 350
Net assets before and after reorganisation
(Rs. in crores)
A B AB
Value of total assets 800 400 400
Less: Loan funds (100) — (100)
Net assets 700 400 300
Net assets belonging to Equity share holders after December 700
Conclusion:
The impact on share holders wealth after reorganisation is Nil.

211
XIV. Buy back of shares:
Problem - 43
K Ltd. furnishes you with the following Balance Sheet as at 31st March, 2009:
(Rs. in Crores)
Sources of Funds
Share capital :
Authorised 100
Issued:
12% redeemable preference shares of Rs. 100 each fully paid 75
Equity shares of Rs. 10 each fully paid 25 100
Capital Reserve 15
Revenue Reserves 260 300
400
Funds employed in:
Fixed assets: cost 100
Less: Provision for depreciation 100 nil
Investments at cost (Market value Rs. 400 Cr.) 100
Current assets 340
Less: Current liabilities 40 300
400
The company redeemed preference shares on 1 st April 2009. It also bought back 50 lakh equity shares of
Rs. 10 each at Rs. 50 share. The payments for the above were made out of the huge bank balances, which
appeared as a part of Current assets.
You are asked to :
i. Pass journal entries to record the above
ii. Prepare Balance Sheet
iii. Value equity share on net asset basis.

212
Solution:
Part I - Journal entries in the books of K Ltd.
Rs. in crores
a. Redemption of Preference Shares on 1st April 2009
i. Due Entry
12% Preference Share capital A/c Dr. 75
To Preference Share Hodlers A/c 75
ii. Payment Entry
Preference Shareholders A/c Dr. 75
To Bank A/c 75
b. Shares bought back
i. On buy back
Shares bought back A/c Dr. 25
To Bank A/c 25
(50 lakhs shares × Rs. 50 per share)
ii. On Cancellation
Equity Share capital A/c (50 Lakhs × Rs. 10) Dr. 5
Securities premium A/c (50 Lakhs × Rs. 40) Dr. 20
To Shares bought back A/c 25
iii. Transfer to Capital Redemption Reserve
Revenue reserve A/c Dr. 80
To Capital Redemption Reserve A/c 80
(Being creation of capital redemption reserve to the
extent of the face value of preference shares
redeemed and equity shares bought back)
Part-II: Balance Sheet of K Ltd after reconstruction:
Balance Sheet of K Ltd as at 1.4.2009
Liabilities Rs. Rs. Assets Rs. Rs.
Authorised Cost:
Issued, subscribed and paid up Less : Provision for 100
equity shares of 200 lakhs of Depreciation (100) Nil
Rs. 10 each 20 Investment at Cost
12% Redeemable preference (Market Value of
shares were redeemed at par. Investments=Rs. 400 Crores) 100
Reserves and surplus Current assets as on 31.3.2009 340
Capital reserve 15 Less: Bank payment for
Capital Redemption Reserve 80 redemption and buy back (100) 240
Share Premium (25-20) 5
Revenue reserve (260-80) 180 280
340 340

213
Part - III - Net Asset Value of Equity Shares
(Rs. in crores)
a. i. Fixed assets Nil
ii. Investments (at market value) 400
iii. Current assets 240 640
b. Less: Current liabilities (40)
Net assets available for equity share holders 600
c. No. of equity shares outstanding (in lakhs) 2
d. Value per equity share of Rs. 10 each = (600÷2) Rs. 300
Problem - 44
The following was the balance sheet of Diamond Ltd. as at 31st March, 2009.
Liabilities Rs, in lakhs
10% Redeemable Preference Shares of Rs. 10 each, fully paid up 2,500
Equity Shares of Rs. 10 each fully paid up 8,000
Capital Redemption Reserve 1,000
General Reserve 6,000
Proﬁt and Loss Account 300
9% Debentures 5,000
Sundry Provisions 1,000
26,900
Assets Rs, in lakhs
Fixed assets 14,000
Investments 3,000
Cash at Bank 1,650
Other Current assets 8,250
26,900
On 1st April, 2009 the company redeemed all of its preference shares at a premium of 10% and bought
back 25% of its equity shares @ Rs. 20 per share. In order to make cash available, the company sold all the
investments for Rs.3, 150 lakh and raised a bank loan amounting to Rs. 2,000 lakhs on the security of the
company’s plant.
Pass journal entries for all the above mentioned transactions including cash transactions and prepare the
company’s balance sheet immediately thereafter. The amount of securities premium has been utilized to
the maximum extent allowed by law.

214
Solution:
Journal Entries
Rs. Rs.
1. Bank A/c Dr. 3,150
To Investment A/c 3,000
To Proﬁt and Loss A/c 150
(Being sale of investments and proﬁt thereon)
2. Bank A/c Dr. 2,000
To Bank Loan A/c 2,000
(Being loan taken from bank)
3. 10% Redeemable preference Share Capital A/c Dr. 2,500
Premium on redemption of preference shareholder A/c Dr. 200
To Preference shareholder A/c 2,750
(Being redemption of preference shares)
4 Preference shareholders A/c Dr. 2,750
To Bank A/c 2,750
(Being payment of amount due to preference
shareholders)
5. Securities premium A/c Dr. 250
To Premium on redemption of preference share A/c Dr. 250
(Being use of securities premium to provide premium on
redemption of preference shares)
6. Equity Share capital A/c Dr. 2,000
Securities premium A/c [800 - 250] Dr. 550
General reserves A/c Dr. 1,450
[(200x20) - 2000 - 550]
To Equity shareholders A/c 4,000
(being buy back of equity shares)
Note: Balance of General Reserve
[6000 - 1450] = Rs. 4550.
7. General Reserves A/ c Dr. 4,500
To Capital Redemption Reserve A/c (2000 + 2500) 4,500
(Being creation of capital redemption reserve to the
extent of the face value of preference share redeemed
and equity shares bought back).
Note: Balance in General reserve as on 01.04.09
(4550 - 4500) = Rs. 50.
8. Equity shareholders A/c Dr. 4,000
To Bank A/c 4,000
(Being payment of amount due to equity shareholders).
Note: Cash at Bank
[1650+3150+2000-2750-4000] = Rs.50

215
Balance Sheet of Diamond Ltd., as on 01.04.09
Issued, subscribed and paid up 6,000 Current asset, Loans and 14,000
equity shares of Rs. 10 each Advances
Capital Redemption Reserve 5,500 Cash at Bank 50
(1000 + 4500) Other Current assets 8,250
General Reserves 50
Proﬁt and Loss A/c (300+ 150) 450
Secured Loans
9% Debentures 5,000
Bank Loan 2,000
Current liabilities and Provisions
Provisions 1,000
Total 22,300 Total 22,300
Problem - 45
XYZ Ltd. has the following capital structure on of 31st March 2009.
Particulars Rs. in Crores
a. Equity Share capital (Shares of Rs. 10 each) 300
b. Reserves:
General Reserve 270
Security Premium 100
Proﬁt and Loss A/c 50
Export Reserve (Statutory reserve) 80
c. Loan Funds 800
The shareholders have on recommendation of Board of Directors approved vide special resolution at their
meeting on 10th April 2009 a proposal to buy back maximum permissible equity shares considering the
huge cash surplus following A/c of one of its divisions.
The market price was hovering in the range of Rs. 25/- and in order to induce existing shareholders to offer
their shares for buy back, it was decided to offer a price of 20% above market.
Advice the company on maximum number of shares that can be bought back and record journal entries
for the same assuming the buy back has been completed in full within the next 3 months.
If borrowed funds were Rs. 1200 Lakhs, and 1500 Lakhs respectively would your answer change?

216
Solution:
Maximum shares that can be bought back
Situtation I Situtation II Situtation III
a. Shares outstanding test (WN # 1 ) 7.5 7.5 7.5
b. Resources test (WN # 2) 6 6 6
c. Debt Equity ratio test (WN # 3) 10.67 4 —
d. Maximum number of shares for 6 4 —
buy back - LEAST of the above
Particulars Situation I Situation II
a. Shares bought back A/c Dr. 180 120
To Bank A/c 180 120
[Being purchase of shares from public]
b. Share capital A/c Dr. 60 40
Securities premium A/c Dr. 100 80
General reserve A/c (balancing ﬁgure) Dr. 20 —
To Shares bought back A/c 180 120
[Being cancellation of shares bought on
buy back]
c. General Reserves A/c
To Capital Redemption Reserve A/c
[Being transfer of reserves to capital
redemption reserve to the extent
capital is redeemed]
Note: Under situation III, the company does not qualify the debt equity ratio test. Therefore the company
cannot perform the buy back of shares (Under section 77A of the Companies Act, 1956)
WORKING NOTES:
WN # 1 : Shares outstanding test
Particulars Amount
a. No. of shares outstanding 30 crores
b. 25% of shares outstanding 7.5 crores

217
WN # 2 : Resources test
(Rs. in Crores)
Particulars Amount
a. Paid up capital 300
b. Free reserves 420
c. Shareholders fund (a+b) 720
d. 25% of shareholders fund 180
e. Buyback price per share Rs. 30
f. Number of shares that can be bought back 6 Crores
WN # 3 : Debt Equity ratio test:
(Rs. in Crores)
Particulars Situation I Situation II Situation III
a. Borrowed Funds 800 1,200 1,500
b. Minimum equity to be maintained
after buy back in the ratio 2:1 400 600 750
c. Present equity 720 720 720
d. Maximum possible dilution in equity 320 120 —
e. Maximum shares that can be 10.67 4 —
bought back @ Rs. 30/- per share
XV. Conversion:
Problem - 46
X Co. Ltd. was incorporated on 1st July, 2008 to take over the business of Mr. A as and from 1st April, 2008,
Mr. A’s Balance Sheet, as at that date, was as under :
Trade creditors 36,000 Building 80,000
Capital 1,94,000 Furniture and Fittings 10,000
Debtors 90,000
Stock 30,000
Bank 20,000
2,30,000 2,30,000
Debtors and Bank balance are to be retained by the vendor and creditors are to be paid off by him. Realisa-
tion of debtors will be made by the company on a commission of 5% on cash collected. The company is to
issue A with 10,000 equity shares of Rs. 10 each, Rs. 8 per share paid up and cash of Rs. 5,000.
The company issued to the public for cash 20,000 equity shares of Rs. 10 each on which by 31 st March,
2009, Rs.8 per share was called and paid up except in the case of 1,000 shares on which the 3rd call of Rs.
2 per share had not been reatised. In the case of 2,000 shares, the entire face value of the shares has been
realised. The share issue was underwritten for 2% commission, payable in shares fully paid up.

218
In addition to the balances arising out of the above, the following balances were shown by the books of
account of X Co. Ltd. on 31st March, 2009.
Rs.
Discount (including Rs. 1,000 allowed on vendor’s debtors) 6,000
Preliminary Expenses 10,000
Director’s Fees 12,000
Salaries 48,000
Debtors (including vendor’s debtors) 1,60,000
Creditors 48,000
Purchases 3,20,000
Sales 4,60,000
Stock on 31st March, 2009 was Rs. 52,000. Depreciation at 10% on Furniture and Fittings and at 5% on build-
ing is to be provided. Collections from debtors belonging to the vendor were Rs. 60,000 in the period.
Prepare the Trading and Proﬁt and Loss account for the period ended 31 st March, 2009 of X Co. Ltd. and
its Balance Sheet as at that date.
Solution:
Part I: Calculation of purchase consideration.
Particulars Rs.
a. Consideration paid in the form of cash 56,000
b. Consideration paid in the form of equity shares of X Co. Ltd 80,000
10,000 Shares of Rs. 10 each, Rs.8 paid up
c. Total consideration 1,36,000
Part II : In the Books of Mr. A.
Realisation Account
Dr. Cr.
To Building 80,000 By X Co. Ltd (Purchase consideration) 1,36,000
To Furniture 10,000
To Stock 30,000
To Proﬁt on Realisation 16,000
1,36,000 1,36,000

219
Journal Entries
Rs. Rs.
X Co. Ltd. A/c Dr. 1,36,000
b. Receipt entry
Equity shares in X Ltd. A/c Dr. 80,000
Cash I Bank A/c Dr. 56,000
To X Co. Ltd. A/c 1,36,000
c. Other receipts from X Ltd - Debtors collection
i. Recovery of debtors.
X Co. Ltd. (Vendor Drs) Dr. 90,000
To Debtors A/c 90,000
ii. Receipt of cash and commission paid.
Discount on Debtors A/c Dr. 1,000
Commission to X Co. Ltd A/c Dr. 3,000
Cash/Bank A/c Dr. 57,000
To X Co. Ltd A/c 61,000
[Since the debtors are held by Mr. A, the discount
given to debtors are to be borne by Mr. A.
Commission = Cash collected × 5%= 60,000×5%=3,000
... Balance in vendor debtors A/c (90,000–61,000=29,000)
d. Settlement to creditors
To Bank A/c 36,000
[Since creditors are also held by Mr. A. and not taken
over by X Co. Ltd.]
Cash/Bank Account
Dr. Cr.
To balance b/d 20,000 By Creditors 36,000
To X. Co. (Purchase Consideration) 56,000 By balance c/d 97,000
To X Co. (Debtors Collection) 57,000
1,33,000 1,33,000
To bal b/d 97,000
Balance sheet of Mr. A as at 1 st April 2008
Capital 1,94,000 Investment in equity shares of X
Add: Realisation Proﬁt 16,000 Co. Ltd (Rs. 8 paid) 80,000
Less : Discount to debtors (1,000) Vendor Debtors (X Ltd.) 29,000
Less : Commission Paid. (3,000) Cash/Bank 97,000
2,06,000 2,06,000

220
Part III - In the books of X Co. Ltd.
a. Take over business of Mr. A
To Mr. A 1,36,000
ii. For Assets taken over
Goodwill A/c (balancing ﬁgure) Dr. 16,000
Building A/c Dr. 80,000
Furniture and ﬁxture A/c Dr. 10,000
iii. Discharge of Purchase Consideration
Mr. A A/c Dr. 1,36,000
To Bank / Cash A/c 56,000
b. Public Issue of shares
i. Bank A/c Dr. 1,36,000
To Equity shares capital A/c 1,36,000
[Being Rs. 8/- per share received on 17,000 shares
(20,000 - 1,000 - 2,000)]
ii. Bank A/c Dr. 6,000
Calls in Arrears A/c Dr. 2,000
[Being receipt of Rs. 61 - on 1000 shares. Rs.2/- on
3rd call had not been realised]
iii. Bank A/c Dr. 20,000
To Calls in advance A/c 4,000
[Being on 2,000 shares, the entire amount of
Share capital received. Rs. 2/- per share not
called up transferred to calls in advance A/c)
Underwriting commission A/c Dr. 4,000
[Being 2% on the face value of the public issue
paid as underwriting commission. Commission
discharged as fully paid equity shares.
20,000 shares × Rs. 10 each = 2,00,000
2% × 2,00,000 = 4,000]

221
Debtors Account
Dr. Cr.
To Sales By Discount (6,000 - 1,000) 5,000
(Assuming fully credit) 4,60,000 By Cash received (balancing figure) 3,24,000
By Balance cld (1,60,000 - 29,000)* 1,31,000
4,60,000 4,60,000
. Vendor Debtors Taken over:
Particulars Rs.
i. Particulars Debtors taken over from Mr. A 90,000
ii. Less : Discount given (1,000)
iii. Less : Cash collected (60,000)
iv. Balance in vendor debtors 29,000
Creditors Account
Dr. Cr.
To Cash (Balancing figure) 2,72,000 By Purchases (assuming fully on 3,20,000
To Balance c/d 48,0000 credit)
3,20,000 3,20,000
Cash / Bank Account
Dr. Cr.
To Realisation from debtors 3,24,000 By Purchase consideration to Mr.A 56,000
To Receipt from vendor debtors 60,000 By Remittance of vendor Debtors collection 57,000
(60000 – 3000)
To Equity Share capital 1,62,000 By Payment to creditors 2,72,000
(1,36,000 + 6,000 + 20,000) By Preliminary expenses 10,000
By Directors fees 12,000
By Salaries 48,000
By Balance c/d 91,000
(balancing figure)
5,46,000 5,46,000

222
Computation of Goodwill on acquisition
Particulars Rs. Rs.
Purchase Consideration
- in shares of Rs. 10 each 80,000
- in cash 56,000 1,36,000
Less : Assets taken over:
- Building 80,000
- Furniture and Fittings 10,000
- Stock 30,000 1,20,000
Goodwill 16,000
Trading Account of X Co. Ltd. for the year ended 31st March, 2009
Dr. Cr.
To Opening Stock 30,000 By Sales 4,60,000
To Purchase 3,20,000 By Closing Stock 52,000
To Gross profit c/d 1,62,000
5,12,000 5,12,000
Profit and Loss Account of X Co. Ltd. for period
from 1st July 2008 to 31st March 2009.
Dr. Cr.
Particulars 1.4.08 to 1.7.08 to Particulars 1.4.08 to 1.7.08 to
30.06.08 31.3.09 30.6.08 31.3.09
To Discount - 5,000 By Gross profit 40,500 1,21,500
To Directors fees . 12,000 By Commission . 3,000
To Salaries - 48,000 Received
To Depreciation 1,250 3,750
To Capital Reserve 39,250 -
To P L A/c - 55,750
40,500 1,24,500 40,500 1,24,500

223
Note :
a. Entire salary and discount pertains to post incorporation period.
b. Depreciation :
i. Pre-incorporation:
Building : 80,000 × 5% ×
3
2
= 1,000
Furniture : 10,000 × 10% ×
3
2
= 250 1,250
ii. Post-incorporation :
Building: 80,000 × 5% × 9/12 = 3,000
Furniture: 10,000 × 10% × 9/12 = 750 3,750
* Proﬁt during 1.4.93 to 30.6.93 reduces the cost of Acquisition and hence transferred to
Capital reserve.
Balance sheet of X. Co. Ltd. as at 31.03.2009.
Share capital Building 80,000
Authorised 3,00,000 Less: Depreciation
Share capital @ 5% 4,000 76,000
Issued and Furniture 10,000
subscribed capital 3,00,000 Less: Depreciation
30,000 shares of Rs. 10 @ 10% 1,000 9,000
each Rs. 8 Current assets,
Called up Capital Loans and Advances
30,000 shares of i) Stock 52,000
Rs. 8 each 2,40,000 ii) Debtors 1,31,000
Less : Calls in arrears 2,000 iii) Cash 91,000 2,74,000
1000 x Rs.2/- 2,38,000 Miscellaneous
[Out of the above Expenses
shares 10,000 shares i) Preliminary
were issued to Mr. A Expenses 10,000
for consideration other ii) Underwriting
than cash] Commission 4,000 14,000
400 shares of Rs. 10
each fully paid (to be
issued to underwriter
for consideration other
than cash) 4,000 2,42,000
Capital reserve* 23,250
Proﬁt and Loss A/c 55,750 79,000
Provision :
Creditors 48,000
Calls in Advance 4,000 52,000
3,73,000 3,73,000

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*Note: Since both Capital Reserve and goodwill arise out of the business acquisition, they can be netted
off against each other.
Therefore, Capital Reserve is Rs. 23,250.
Pre incorporation proﬁts : 39,250
Less : Goodwill on business purchase : (16,000)
Balance of Capital Reserve : 23,250

Group Financial
Statements
STUDY NOTE - 3
• Holding Company
• Consolidated Income
• Preparation of the Group Cash Flow Statement

Group Financial Statements
226
Theory
3.1 Holding Company
The tendency to combine in order to derive advantages of economics of scale as well as market power/
monopoly power, firms may amalgamate – one firm may absorb another firm in which case their size
increases and legal in a larger firm comes into existence. This implies dissolution of one or more existing
firms. A legal procedure has to be followed for this purpose. However, Firms may continue without any
dissolution by investing in the shares of another company and thereby, acquiring ownership interest to
the extent of the holding. If a company holds more than 51% of the issued share capital of another firm
or controls composition of Board of Directors of another firm, the company holding the majority share is
termed as holding company and the company whose shares are held is termed as subsidiary company.
A partly owned subsidiary is one in which the holding company (or the group) does not hold all the
shares. The interest of shareholders outside the group is called ‘Minority Interest’.
While the wholly owned subsidiary is one where all the shares are owned by the holding company. From
legal point of view both the companies continue to enjoy, separate legal entity but from the point of view
of investor, lender as well as management, then, may very well be regarded as single entity. Legally
accounts of these companies are complied separately but a more realistic picture will be presented if
consolidated accounts especially with respect to published statements- income and position statements
are also included in published reports. For this purpose inter company transactions have to be eliminated
from all stages and a single Profit and Loss Account and Balance Sheet compiled for the group as a whole.
If a company is a subsidiary company, it is also deemed to be a subsidiary of the holding company.
3.1.1 Methods of Combining
In order to be able to account for combinations, we must first explore some of the methods which may be
used to effect them. Such methods may best be classified as to whether or not a group structure results
from the combination. Let us take as an example: two companies L and M and assume that the respective
Boards of Directors and owners have agreed to combine their business.
Combinations Which Result in a Group Structure
Two such combinations may be considered. In the first case, company L (say) may purchase the shares of
Co. M (say) and thereby acquire a subsidiary company, alternatively Co. M may purchase the shares of
Co. L. The choice of consideration given in exchange for the shares acquired, will determine whether or
not the old shareholders in what becomes the subsidiary Co., have any interest in the combined business.
Thus, if Co. L issues shares in exchange for shares in Co. M the old shareholders of Co. M have an interest
in the resulting holding company and thereby in the group. Whereas, if Co. L pay cash for the shares in
Co. M, the old shareholders in M take their cash and cease to have any, interest in the resulting group.
In the second case a new company LM (say) may be established to purchase the shares of both M Co. and
L Co. Thus the shareholders in L and M may sell their shares to LM in exchange for shares in LM. The
resulting group structure would be:-
Holding Company
Subsidiary Companies
LM
L M

227
The shareholders in LM would be the old shareholders in LM would be the old shareholders in the two
separate companies and their respective interests would depend, as in the above examples, upon the
valuation placed the two separate companies–which should in turn depend upon the bargaining between
the two Boards of Directors.
It would be possible for LM Co. to issue not only shares but also loan stock in order tom purchase shares
in L Co. and M Co. It would be difficult for payment to be made in cash and LM Co. is a newly formed
company, although it could, of course offer – shares or raise loan to obtain cash.
Combinations not Resulting in Group Structure
Again, two such combinations may be considered. First, instead of purchasing the shares of Co.M.Co.L
may obtain control of the net assets of M by making a direct purchase of those net assets. The net assets
would thus be absorbed into Co.L and Co.M would itself receive the consideration. This, in due course
would be distributed to the shareholders of M by its liquidator. Once again, the choice of consideration
determines whether or not the old shareholders in Co. M have any interest in the enlarged Co.L, second,
instead of one of the companies purchasing the net assets of the other, a new company may be formed
to purchase the net assets of both the existing companies. Thus a new company LM may be formed to
purchase the net assets of Co.L and Co.M. If payments is made by issue of shares in Co. LM these will be
distributed by the respective liquidators so that the end result in one company, LM which own the net
assets previously held by the separate companies and has as its shareholders the old shareholders in the
two separate companies.
Preference for Group Structure
The above are methods of effecting combination between two or indeed more, companies. It appears
that the majority of large business combination makes use of a group structure rather than a purchase of
assets or net assets. Such a structure is advantageous in that separate companies enjoying limited liability
as already is existence. It follows that names and associated Goodwill, of the original Companies are not
lost and, in addition, that it is not necessary to renegotiate contractual agreement. All sorts of other factors
will be important in practice, some example are the desire to retain staff, the impact of taxation and stamp
duty, whether or not there is remaining minority interest.
Choice of Consideration
As discussed above, the choice of consideration will determine who is interested in the single business
created by the combination and therefore be affected by the size of the companies and also by the intention
of the parties to the combination and also by the conditions in the market securities and taxation system
in force.
The main type of consideration are cash, loan stock, equity shares and some form of convertible securities,
all sorts of combinations of these are possible.
3.2 Accounting Treatment
It seems to be intention of the companies act that the financial year of holding and subsidiary firm should
end on the same date. Section 212 of The Companies Act 1956 requires a that a holding company shall
attach to its Balance Sheet the following documents.
• A copy of the Balance Sheet of the subsidiary.

228
• A copy of the Profit and Loss Account of the subsidiary.
• A copy of the board of Directors report and auditor’s report.
• A statement of holding company’s interest.
Accounting Standard AS–21 which has come into effect 1–4–2001 requires that holding company shall
also present consolidated financial statement in addition to the separate financial statements as stated
above. Student is advised to study AS–21 in this context. Consolidated Balance Sheet with respect to the
consolidation process is carried out on a step by step basis so that common transaction are eliminated and
the assets and liabilities of the entire group are presented in a single Balance Sheet and P/L Account at
market prices. The consolidation of the Balance Sheet is carried out in the following steps :
1. Elimination of inter company investments account: a holding company by definition holds majority
shares in the subsidiary company which appears as an investment on the assets side of the Balance
Sheet of the holding company. In the context of subsidiary company it is part of issued capital on the
liability side.
As a first step in the consolidated process the investment account in the Balance Sheet of the holding
company in the subsidiary company is eliminated and the assets (leaving aside fictitious assets or including
an adjustment for them) and all outside liabilities will be incorporated into the holding company’s Balance
Sheet as shown below :-
Balance Sheet as on 31-12-1989
H S H S
Share Capital @Rs. 10 each 20000 10000 Sundry Assets 20000 10000
Sundry Liabilities 10000 5000 Investments in S. 10000 -
Ltd. (1000 shares)
30000 15000 30000 10000
Solution:
Consolidated Balance Sheet
Rs. Rs. Rs. Rs.
Share Capital 20000 Sundry Assets 20000
Sundry Liabilities H
H 10000 S 15000 35000
S 50000 15000
35000 35000
In the above case the subsidiary firm is fully owned by the holding company and therefore the entire
net assets of the subsidiary firm are in the ownership of the holding company and for the purpose
consolidation they have been incorporated into Balance Sheet of the holding company. However, very
often the holding company have holds only majority shares in which case the extent of the ownership
interest ( no. of shares held in the form of investments by the Holding company/ total issued capital of S

229
limited in terms of number of shares) In the process of consolidated therefore, assets and liabilities should
be incorporated only to the extent of ownership interest. However, this method is not allowed in practice
as per convention.
2. Determination of Minority Interest: The shares of the subsidiary firm held by outsiders i.e. other
than the Holding company are in aggregate termed as minority interest since majority shares are
held by Holding company. As per I, even in case of partly owned subsidiary firm the entire assets
and liabilities of the subsidiary companies are incorporated in the consolidated Balance Sheet and an
additional calculation is made to determine the extent of minority interest in the assets of subsidiary
firms and this is shown as additional liability in consolidated Balance Sheet. The claim of the majority
(or outside) shareholders will consist of the face value of the shares held by them plus a proportional
share in any increases in the value of assets of the company minus their portion of company’s losses
or decrease in the value of assets of the company.
Illustration:
From the following prepare a consolidated Balance Sheet.
(Figures in Rupees)
H S H S
Share Capital@Rs. 10
each
20000 10000 Shares in S. Ltd. 80000
S. Liabilities 10000 5000 800 shares
Other assets 22000 15000
30000 15000 30000 15000
H limited has acquired the shares on the closing Date of the Balance Sheet
Solution
Rs. Rs. Rs. Rs.
Share Capital 20000 Sundry assets
Sundry Liabilities H 22000
H 10000 S 15000 37000
S 5000 15000
Minority Interest 2000
37000 37000
Net Assets available for distribution of Equity shareholders of S Limited =
(Assets - Liabilities) = (15000 - 5000) = Rs. 10000
Minority Interest = (10000*1/5) = 2000
(800/1000) = (4/5) Majority Interest

230
3. Goodwill, Capital Reserve / Cost of Control – In the Balance Sheet of subsidiary company when
a company acquires shares there are likely to be accumulated Profit/Losses. These will not be
incorporated into the consolidated Balance Sheet but with respect to the Holding companies cost of
investment reflected on the assets side in the holding’s company Balance Sheet a comparison will
be carried out with the actual value of these investments. The subsidiary Co’s Balance Sheet (paid
up value of shares + accumulated profit or – accumulated losses = market value of the investment).
The difference between the cost of acquisition of share and the market value determined above will
be goodwill if cost of acquisition is less and accordingly goodwill A/c or capital reserve A/c will be
incorporated into the consolidated Balance Sheet. This figure is also termed as cost of control since
the holding company has a controlling investment in the subsidiary firm.
Illustration:
H Ltd. Acquires 3/4 of the share capital of S Ltd. On 31–12–1999 whose Balance Sheets are follows:
H S H S
Share Capital@Rs. 20000 10000 Fixed assets 20000 10000
10 each Current assets 13000 12000
General Reserves 5000 3000 Shares in B Ltd. 10000
P/L Account 3000 2000 (3/4)
10% Debentures 10000 5000
S.creditors 5000 2000
43000 22000 43000 22000
Required to compile consolidated Balance Sheet on 31–12–1999.
Solution:
In case of partly owned subsidiary firm the H Co’s interests in the accumulated profit or loss the subsidiary
firm is only to the extent of the ownership interest. The balance due to minority will be adjusted for the
minority interest.
Cost of Control
Amount paid for shares in S Ltd. / cost of acquisition
Of shares Rs.10000
Less: Paid up value in S Ltd. 7500
Share of General Reserve (3/4 of Rs.3000) 2250
Share of P/L Account (3/4 of 2000) 1500
_______ 11250
Capital Reserve 1250
Minority Interest
Paid up value 2500
General Reserve (1/4) 750
P/L Account (1/4) 500

231
Rs. Rs. Rs. Rs.
Share Capital 20000 Fixed assets
General Reserve 5000 H 20000
P/L Accounting 3000 S 10000
Capital Reserve 1250 -------- 30000
10% Debenture Current Assets
H 10000 H 13000
S 5000 S 12000
--------- 15000 --------- 25000
S/ Creditors
H 5000
S 2000
--------- 7000
55000 55000
(S Company Balance Sheet
(Net assets – Debentures – Creditors) = (22000 - 5000 - 2000) = 15000
= Net assets available for equity shareholders.
Minorities share in 15000 = (1/4) * 15000 = 3750
(including paid up value of share capital and accumulated proﬁts)
4. Capital profit/ revenue profit: The date of acquisition of shares by the holding company may not
coincide with the closing of financial year i.e they may be acquired during the course of financial
year. However, the published statements will be compiled only with respect to the closing date of
financial year. In such a case, the date of acquisition of shares does not coincide with the date of
Balance Sheet and accordingly adjustments have to be made. The Profit and Loss of the subsidiary
company prior to the date of acquisition are capital in nature while post dated profits are revenue in
nature. From the accounting point of view the pre – acquisition profits will be adjusted for in the cost
of control extent of holding company’s ownership interest while the post acquisition profit will be
treated as revenue in nature and therefore in the closing Balance Sheet as shown in the Profit/Loss
Account of the holding company. For this purpose in the absence of any further information it is
perfumed that the subsidiary company earns uniformly throughout the year, for example, if the date
of acquisition is in the middle of first year 1/2 the profit of the subsidiary company will be capital in
nature, the other 1/2 as revenue , with respect to the minorities the treatment is identical for either
share in capital or revenue profit which are added on, to the minority interest. In some cases in the
analysis of profit additional adjustments have to be made before they are analysed into capital and
revenue profit. All accumulated profit except current year profit which has to be segregated into
capital and revenue will be treated as capital profit.

232
5. Inter Company Transactions: The holding and subsidiary firm may have centered into the following
transaction and these common transactions will be eliminated while compiling the consolidated
Balance Sheet.
a) The holding or the subsidiary firm may have granted loans (short term) to each other.
b) They may have sold goods on credit in which case the inter company transactions will be
included in debtors and creditors.
c) The subsidiary or holding company may have drawn Bills of Exchange on each other in which
case the common transaction will be included in Bills Payable/ Bills Receivable.
In all the above cases where the companies were treated as separate entities, these transactions would
appear on the liabilities side on the Balance Sheet of one and on the assets side of the other’s Balance
Sheet. However, when the entire group is being treated as a single entity it is undesirable to include
common transaction and therefore they will be eliminated in the consolidated Balance Sheet from the
liabilities as well as assets side.
6. Contingent Liabilities: A contingent liability appears as a footnote. This is on account of a liability
which may or may not arise in the future. While preparing a consolidated Balance Sheet they may be
categorized as external current liabilities or internal current liabilities. External liabilities between the
holding and subsidiary firm and the outsiders. Internal current liabilities is on account of transactions
between the firms belonging to the same group. The external liabilities continue unchanged
for the same group while internal liabilities no longer appears as a footnote as it is generally
incorporated on the liability side.
Illustration:
The following are Balance Sheet of H S Company as on 31/12/1999 (in Rs.)
H S H S
Share Capital@Rs. 10 20000 10000 Fixed Assets 30000 15000
each Current Assets 35000 25000
General Reserve 10000 5000 Shares in S Ltd.
(8000)
10000
P/L balance as 1/1999 5000 4000
12% Debenture 20000 10000
S. creditors 10000 5000
Profit for the year 10000 6000
75000 40000 75000 40000
H Limited acquired shares in S Limited on 1/7/1999. S limited has a balance of Rs. 4000/- in General
Reserve on 1/1/1999. On the account fire goods costing Rs. 2000 of S Limited were destroyed in March 89.
The loss has been charged to the Profit and Loss Account for the year.
Required to prepare a consolidated Balance Sheet.

233
Solution
Working Notes:
1. Analysis of profit (of S)
Particulars Capital Profit Revenue Profit
General Reserve 1/1/99 4000 -
Profit/ Loss Account 4000 -
Profit for the year prior to transfer
General Reserve + Loss on fire in March 4500 4500
(6000+1000+2000)/2 ------------ ------------
4500
Less: Loss on A/c of fire in March 2000
------------ ------------
10500 4500
Less: Minority Interest (1/5) 2100 900
------------ ------------
8400 3600
------------ ------------
2. Cost of Control
Cost of acquiring of shares 10000
Less: Nominal value of shares 800*10 8000
Share capital Profits of H 8400
------------ 16400
------------
Capital Reserve 6400
------------
Minority Interest
Nominal value of share 200*10 2000
Share of capital profit 2100
Share of revenue profit 900
------------ 3000
------------
5000

234
Rs. Rs. Rs. Rs.
Share Capital 20000 Fixed assets
General Reserve 10000 H 30000
P/L A/c S 15000
H 15000 45000
S 3600
12% Debentures 18600 Current Assets 35000
H 20000 H 25000
S 10000 S 60000
30000
Sundry Interest 15000
105000
7. Unrealized gains: If goods have been sold by holding company to subsidiary company or vice versa,
presumably they would be including a profit margin on the cost price. However, when the firms
are treated as a single entity, stock or inventory should be valued at cost i.e excluding profits. The
firm that has sold the goods must have credited the profit of account of the sales: therefore, profit
or selling company has to be reduced and the stock account of the company that has purchased the
goods also has to be reduced for which purpose the following entry is passed.
Profit Loss A/c (selling company) Dr.
To stock company (purchasing company)
(with the company of profit included in the inter
company sales of goods that can be…..)
By making a deduction for the inter company sale of goods, the adjustments is made only in relation
to those goods that can still be traced in the inventories of the purchasing company. If the goods are
not traceable no adjustments is required. A finer accounting analysis can be performed by taking
into consideration extent of the ownership interest of the holding company in the subsidiary firm
accordingly making the above entry to the extent of ownership interest. As per decision of the
Institute Chartered Accountants, this method no longer followed and the total profit included in
inventories (irrespective of it belonging to majority or minority) is deducted from both sides of the
Balance Sheet.
8. Revaluation of assets and Liabilities:- The Holding company may revalue the Assets and Liabilities
of the subsidiary firm at the time of acquisition of shares in terms of market prices. In such a case
the rate of revaluation is, assumed to be the same date as acquisition of shares. The profit or loss on
revaluation is capital in nature and accordingly will be adjusted for in the analysis of profit under
capital profits. The date of acquisition of shares as considered earlier also may not coincide with date
of Balance Sheet in which case as stated earlier the current years profit has to be segregated between
capital and revenue. Since the date of revaluation of assets is the date of acquisition of shares, a
change in depreciation may be required on the revalued assets from the date of acquisition till the
closing of Balance Sheet. For, presumably the Balance Sheet of the subsidiary company has been

235
made or complied in terms of its original values. Information with respect to revaluation has to be
explicitly stated by an agreement between the firms at the time of acquisition of majority share by the
holding company.
Preference Shares
The Holding or Subsidiary Company may have Preference shares at the time of consolidation. The
preference shares of the holding company continue as they are in the consolidated Balance Sheet. With
respect to the Subsidiary firm if preference share capital has been issued there are 2 possibilities.
• All preference shares are held by the outsiders i .e. other than holding company i.e which case the
paid up value of the preference shares of the Subsidiary company is added to the minority interest.
• It is possible that part whole of the preference. shares of the Subsidiary company is held by the
Holding Company. In such a case the cost of acquiring of the preference shares (shown in the
investment account in the assets side in the Balance Sheet of the holding company) is compared with
the paid up value (shown in Balance Sheet of Subsidiary firm) and the difference if any, adjusted in
the cost of control. (if preference shares are issued after date of acquisition the adjustments remain
the same )
Arrears of preference dividends may be payable or outstanding at the time of consolidation of Balance
Sheet and usually preference dividends are cumulative in nature. If the subsidiary company, has adequate
profits, it is reasonable to assume that these dividends will be paid. The minorities shares will be added
to Minority Interest while with respect to the holding company the treatment will differ in terms of the
divided being paid out of pre acquisition or post acquisition profits or both.
In case the dividends are paid out of pre-acquisition profits (capital profit), the dividend due to the holding
company will be adjusted for in the cost of control. In case post acquisitions revenue profits are employed,
the dividend due to the holding company will be credited (added on) to the Profit and Loss Account
of the holding company in the consolidated Balance Sheet. It is possible that a combination of both pre
and post acquisition profit is employed for the purpose of making dividend payment in which case the
dividend paid out of the capital profit will be adjusted for in the cost of control and the portion out of
revenue profit will be adjusted for in the P/L Account of Holding company, the total being amount due
to the holding company with respect to minorities no distinction is made between capital and revenue
profit for the purpose of making dividend payment and the dividend payable to them will be added to
minority interest.
BONUS SHARE.
The Subsidiary company may issue Bonus shares either at the time of acquisition of shares by the holding
company or after the acquisition of shares by the Holding company. For issuing bonus shares, the
accumulated profits in the Balance Sheet of the subsidiary company are employed. These profits may be
capital or revenue in nature or a combination of both. At the time of bonus issue the share of the Holding
company as well as the minorities increases proportionately (in terms of the ration of bonus issue) but the
proportion of their ownership remains the same as before. If bonus shares are issued out of capital profits
are adjusted accordingly and bonus shares transferred to cost of control. If bonus shares issued out of
revenue profit of subsidiary company to that extent revenue profit stand capitalized and will affect capital
reserve or goodwill as the case may be.

236
DIVIDEND ON EQUITY SHARES
The Subsidiary company may declare dividend on its equity shares and the following are the possibilities
with respect to it.
a. Intention to propose dividend: In such a case since the proposal has not been approved in the
meeting the intention may be ignored and no adjustment is required (in terms of calculation) with
respect to this dividend intention.
b. Proposed dividend: It is possible that dividend has been proposed in a meeting on the closing date of
the financial year but no notification of this fact has been made in the books of the Holding company.
In such a case, the amount of dividend declared may be added to the profits of the Subsidiary company
(assuming this has been deducted) and then the analysis of profits is performed in the usual manner.
No adjustment is needed in the books of the Holding company.
c. Dividends Payable: In some cases, the dividends that have been declared by the Subsidiary firm
may have been adjusted for in both the books i.e. the Subsidiary and Holding company. In this case
adjustment is made in the books of the Subsidiary company. In the books of the Holding company the
dividend that are receivable fro the Subsidiary company will be credited to Profit and Loss Account
of the Holding company (in terms of income receivable on investments).It is possible that these
dividends have been paid by the subsidiary firm out of Capital profit, revenue profit, combination of
both profit
i) If dividend of subsidiary company have been declared totally out of capital profit, then it is
incorrect that this capital income should stand credited to the revenue P/L Account of the
holding company. Therefore one adjustment entry is made for remaining dividend from the
P/L Account of the holding company and they are transferred to cost of control.
P/L Account (H Ltd. ) Dr
To Cost of control/Investment Account
With the amount of dividend receivable from the Subsidiary firm
ii) If the dividend of the subsidiary firm have been declared out of Revenue profit then they should
be credited to the P/L A/c. of the Holding Company and of they are already included therein
as per our presumption, no adjustment is required.
iii) The dividend receivable by Holding Company may be partly out of capital profit or out of
revenue profit of Subsidiary company. The portion paid out of capital profit will be eliminated
form P/L Account of Holding company and transferred to cost of control with respect to the
portion of the dividend receivable out of revenue profit no adjustment is required. With respect
to the minorities irrespective of the dividend declared by the Subsidiary company being payable
out of capital profit or revenue profit will be added to minority interest.
d) Dividend paid: The Subsidiary company may have declared a dividend in the course of the financial
year and this fact has been adjusted for in both the books and in fact the cash liability has already
been met by subsidiary firm for the purpose of dividend payment. This implies there is no liability
outstanding with respect to payment of dividends therefore no addition on account dividends has to
be made to minority interest. With respect to Holding company has stated in point (iii) the dividend
must have been credited to P/L Account out of capital profit, revenue profit are a combination from
the subsidiary company’s books. The portion out of capital profit stated earlier will be transferred
from the P/L Account of the Holding company to the cost of control.

237
Share Premium:
The share premium account may appear in the Balance Sheet of the Holding company at the time of
consolidation. It will continue as share premium account. However if the holding company has issued
some of its own shares to the subsidiary company the share premium due on this share will be adjusted
for in the cost of control. If share premium appears in the books of subsidiary company, it may be prior to
the acquisition of shares by the holding company in which case it is treated as capital profit in the analysis
of profit. However, the share premium arises after acquisition of share by H company it will continue as
share premium in the consolidated Balance Sheet.
Preliminary Expenses:
If the Holding company has preliminary expenses they continue as such. If subsidiary company has
preliminary expenses they may be treated as a capital loss in the analysis of profit or clubbed with
preliminary expenses of Holding company.
Provision for Taxation:
Taxes are payable to outside agencies and provision for taxation with respect to holding and subsidiary
company will be shown as such in the consolidated Balance Sheet.
Sale of Share:
The holding company may sell some of the share of the subsidiary company that it holds as investment.
The P/L on such sale is transfer to cost of control. This changes the proportion of the Holding company
and minority interest and requires adjustment in calculation of cost of control, minority interest and an
analysis of profit will have to be performed.
Purchase of shares in instalments:
The Holding company may acquire shares in the subsidiary firm not in once single instalment but in a
number of instalments. If the earlier dates of the acquisition may be ignored. If however, shares have been
acquired in major instalments, a step by step analysis of profit after taking into consideration the dates of
acquisition will have to be performed in the analysis of profit between capital and revenue.
Debentures:
The subsidiary and the holding may have issued debentures at time of consolidation of Balance Sheet.
These will be added and continued to appear in the debenture account in the consolidated Balance Sheet.
However, if some portion of these debentures are held by the holding company or subsidiary company,
this will be dedicated from the investment account on the asset side and the debentures account on the
liabilities side at the time of consolidation.
Goodwill:
A goodwill account may appear in the books of Subsidiary and Holding at the time of consolidation. The
aggregate goodwill be the total of these goodwill and will be adjusted for any goodwill or capital reserve
that appear in the cost of control.
Interim Dividend:
When a dividend is paid in between an accounting year i.e, prior to completion of final accounts, it is
termed as interim dividend. The general presumption with respect to this dividend is that it has been
paid i.e, it has been adjusted for in the books of Holding and Subsidiary. No adjustment required with
respect to minorities however, with respect to the Holding company, if capital profit have been employed
for making dividend payment to the extent (wholly or partly) it will go to the cost of control from the P/L
Account of Holding company.

238
A. PRELIMINARIES OF CONSOLIDATION
Illustration 1: Analysis of Balances in Reserves
Following are the balances in various reserves of P. Ltd., subsidiary of V Ltd. as on the date of controlling
acquisition and the date of consolidation -
Accounts Date of Acquisition Date of Consolidation
General Reserve 60,000 1,20,000
Profit and Loss Account 25,000 80,000
Capital Redemption Reserve 40,000 55,000
Securities Premium 45,000 45,000
Capital Reserve 5,000 25,000
Preliminary Expenses 5,000 1,000
Underwriting Commission 10,000 5,000
Additional information -
1. One year after the date of controlling acquisition, Pushpak Ltd. had issued Bonus Shares for Rs.60,000
utilizing the balances in Capital Reserve and Capital Redemption Reserve in full, and sourcing the balance from
General Reserve. The Director’s did not utilize the balance in Securities Premium for this purpose.
2. In the intervening period, Preference Share Capital had been redeemed at a Premium of Rs.12,000. For
statutory Compliance, a sum of Rs.40,000 had been transferred to Capital Redemption Reserve and a further
sum of Rs. 15,000 had been transferred upon redemption of Debentures, which were also redeemed at a
Premium of Rs.10,000.
3. To finance its redemption of Preference Capital, P Ltd. had issued Equity Capital at a Premium. The balance
of Rs.5,000 against Underwriting Commission is incurred in this regard.
4. The Company has been writing off balances in Underwriting Commission A/c and Preliminary Expenses
against balance in Securities Premium Account. The balance in Preliminary Expenses as on consolidation date
is the amount as on acquisition date not yet written off.
5. Pushpak Ltd. had declared Equity and Preference Dividend of Rs.20,000 out of its PL A/c balance as on date
of acquisition.
How would the above balances as on date of consolidation be analyzed and classified for the purposes of
consolidation?
Solution:
1. General Reserve
Balance as on Consolidation 1,20,000
Date of Acquisition 60,000 Acquisition to Consolidation
Less: Bonus Issue (60,000 - trfd. From Cap. Res. 15,000 (balancing figure) Rs.75,000
50,000 - trfd. from CRR 40,000)
Balance Capital Profit 45,000 Revenue Reserve
2. Profit and Loss A/c
Balance as on Consolidation 80,000
Less: Dividend out of this 20,000 (balancing figure) Rs.75,000
Balance Capital Profit 5,000 Revenue Profit

239
3. Capital Redemption Reserve
Less: Bonus Shares 40,000 (balancing figure) Rs.55,000
Balance Capital Profit NIL
Redemption of Pref. Capital Redemption of Debentures
Rs.40,000 Rs. 15,000
Capital Redemption Res. Capital Redemption Res.
4. Securities Premium
Less: Premium on Redemption of Pref. Capital (12,000) Premium on Fresh Issue of Capital
Less: Premium on Redemption of Debentures (10,000) (balancing figure) Rs.36,000
Less: Underwriting Commission and Prelim (14,000) Securities Premium
Exp. written off (10,000 + 4,000)
Balance Capital Profit 9,000
5. Capital Reserve
Less: Bonus Shares 5,000 (balancing figure) Rs.25,000
Balance Capital Profit NIL Capital Reserve
6. Preliminary Expenses
Less: Written off against Securities Prem. 4,000 (balancing figure) Rs.NIL
Balance Capital Profit 1,000 Preliminary Expenses
7. Underwriting Commission
Less: Written off against Securities Prem. 10,000 Rs.5,000
Balance Capital Profit NIL Underwriting Commission
Summary
Accounts
(1)
Balance on DOC
(2)
Considered Capital Profit
(3)
Balance considered as such
(4)
General Reserve 1,20,000 45,000 75,000
Profit and Loss Account 80,000 5,000 75,000
Capital Redemption Reserve 55,000 NIL 55,000
Securities Premium 45,000 9,000 36,000
Capital Reserve 25,000 NIL 25,000
Preliminary Expenses 1,000 1,000 NIL
Underwriting Commission 5,000 NIL 5,000
Note: In the course of consolidation, the amounts in Col. (3) and (4) shall be apportioned to Holding Company
(P Ltd.) and Minority Interest (of V Ltd.) in the ration of their shareholding.

240
Illustration 2: Analysis of Reserves – Adjustment for Abnormal Loss, Dividend, etc.
A Ltd. acquired 80% interest in B Ltd. on 01.07.2007. A Ltd. is in the process of preparing its Consolidated Financial
Statement as on 31.12.2008. The details of Profit and Loss A/c balances of B Ltd. is as under —
• Balance on 01.01.2007 Rs. 6,000
• Profit for 2007 Rs.10,000 (before Equity Dividend)
• Balance on 31.12.2008 Rs.33,800
In April 2007, B Ltd. lost stocks costing Rs.1,550 due to riots. The Insurance Company admitted a claim of Rs.650
only.
In August 2008, A Ltd. received Rs.9,600 as Dividend from B Ltd. in respect of the year ending 31.12.2007. B Ltd.
has proposed a dividend of Rs.15,000 for the year ending 31.12.2008.
During 2008, B Ltd. had purchased shares of M Ltd. cum-dividend for Rs.34,500. B Ltd. received a dividend of
Rs.7,500 on this investment, which was credited to its Profit and Loss Account. A provision for outstanding
expenses of Rs.1,700 provided during the year was considered excessive. The balance in Profit and Loss Account
as on 31.12.2008 is after providing for the expenses.
Analyse the balance in Profit and Loss Account as Capital and Revenue for the purposes of Consolidation.
Solution:
Analysis of Profit and Loss Account
Balance as given on 31.12.2008 33,800
Less: Pre-Acqn. Dividend from M Ltd. (7,500) (to credit Investment in Maya A/c)
Less: Proposed Dividend for 2008 (15,000)
Add: Excess Provision to be written back 1,700 (to debit Outstanding Expenses A/c)
Corrected Balance as at 31.12.2008 13,000
01.01.2007 Profit for 2007 10,000 Dividend for 2007 Profit for 2008
Rs.6,000 Add: Abnormal Loss 900 Rced. by A 9,600 for 80% Rs.9,000
Capital Profit withoutTotal Dividend = 9,600 + 80% = (bal. figure) Revenue
abnormal losses 10,900 (Rs. 12,000) (1,30-Opg. 60-
Pft for 2004 1,00 +
Dividend 1,20)
1.7.2007 to
1.7.2007
5,450
Less: Abnormal Loss 900)
Bal. Capital Profit 4,550
1.1.2007 to
31.12.2007
5,450
Revenue
From Opg
Bal.
(bal. figure)
(Rs.2,000)
Capital
From Profit
for 1.1.07 to
1.7.07
(Rs.4,550)
Capital
From Profit
for 1.7.07
to 31.12.07
(Rs.5,450)
Revenue
Total Capital Profit: 6,000 + 4,550 - 2,000 - 4,550 - Rs.4,000;
Total Revenue Profit: 9,000 + 5,450 - 5,450 = Rs.9,000
Abnormal Loss = Stock Loss in Riots Rs.1,550 Less Insurance Claim received Rs.650 = Rs.900
Notes:
• It has been assumed that the Profits arose evenly throughout the year.
• Dividend declared for 2004 = Rs. 12,000, but profit for 2007 is Rs. 1,00,000. So it is presumed that balance of
Rs.2,000 has been declared from the opening reserve.

241
Illustration 3: Cost of Investment - Share Split
A Ltd. acquired 5,000 Shares of S Ltd. at Rs.48 per Share cum-Dividend constituting 62.50% holding in the latter.
Immediately after purchase, S Ltd. declared and distributed a dividend at Rs.4 per Share, which S Ltd. credited
to its Profit and Loss Account.
One year later, S Ltd. declared a Bonus of 1 fully paid Equity Share of Rs.10 each for every 5 Shares held. Later
on, S Ltd. proposed to raise funds and made a Rights Issue of 1 Share for 5 held at Rs.36 per Share. A Ltd.
exercised its right.
After some time, at its AGM, S Ltd. had decided to split its Equity Share of Rs.10 into Two Equity Shares of Rs.5
each. The necessary resolutions were passed and share certificates issued to all its existing shareholders.
To increase its stake in S Ltd. to 80%, A Ltd. acquired sufficient number of shares at Rs.30 each.
Ascertain the Cost of Control as on 31st
December if Sreesha’s share in Capital Profits (duly adjusted for purchase
in lots) as on that date was Rs.3,15,000.
Solution: 1. Cost of Investment
Particulars Shares Rs.
Cost of First Acquisition (5,000 x Rs.48)
Less: Pre-Acquisition Dividend (5,000 * Rs.4 per Share)
5,000
N.A.
2,40,000
(20,000)
Corrected Cost of Investment
Add: Bonus Shares (1/5 * 5,000 Shares)
5,000
1,000
2,20,000
–
Cost after Bonus Shares
Add: Rights Shares (1/5 x 6,000 Shares x Rs.36)
6,000
1,200
2,20,000
43,200
Cost after Rights Issue before Share Split 7,200 2,63,200
Cost after share split (WN 1) (2 Sh. for 1 for 7,200 Sh = 7,200 x 2) Add:
Acquisition to increase holding to 80% (WN 2) (4,032 x Rs.30)
14,400
4,032
2,63,200
1,20,960
Balance on date of Consolidation 18,432 3,84,160
Notes:
• Share Split: In case of Share Split, the Cost of Acquisition will not undergo any change. Only the number
of Equity Shares and the face value will change. This is similar to adjustment for Bonus Issue. However, for
Bonus Issue, the face value and paid up value of the share will be the same as the original share. In share
split, the face value and paid up value will be lesser than that of the original shares.
• Calculation of Number of Shares to be acquired to increase stake to 80%
Particulars Shares
a. Shares held before acquisition
b. % of holding
c. Hence, Total Number of Shares of S Ltd. (a + b)
d. 80% of above (c x 80%)
e. Number of Shares to be acquired (d - a)
(14,400 - 62.50%)
(23,040 x 80%)
(18,432 - 14,400)
14,400
62.5%
23,040
18,432
4,032
2. Cost of Control
Particulars Rs.
Cost of Investment
Nominal Value of Equity Capital
Share in Capital Profit
(A) (from 1 above)
(18,432 x Rs.5 per Share)
3,84,160
92,160
3,15,000
Total of Above (B) 4,07,160
Capital Reserve (if B A) (B-A) 23,000

242
Illustration 4: Cost of Control - For different Investment Costs
C Ltd. has acquired 50,000 Shares of Rs.10 each in A Ltd. constituting 62.5% of the latter’s Equity. On the same
day, Arghya Ltd. had also acquired 10,000 8% Preference Shares of Rs.20 each.
The balances in Reserves of A Ltd. are -
Capital Reserve Rs.60,000 (Fully Pre Acquisition)
Securities Premium Rs.15,000 (Fully Post Acquisition)
General Reserve Rs.78,000 (30% Pre Acquisition 70% Post Acquisition)
Profit and Loss A/c Rs.90,000 (50% Pre Acquisition 50% Post Acquisition)
Ascertain the cost of control if total cost of investment is (a) Rs.7,50,000; (b) Rs.8,50,000; and (c) Rs.10,00,000.
Solution:
1. Determination of Capital Profit
Reserve Account
Total Pre Acquisition Post Acquisition
Capital Profit Revenue Profit
Capital Reserve 60,000 60,000 —
Securities Premium 15,000 — 15,000
(30% x Rs.78,000)
54,600
(70% x Rs.78,000)
Profit and Loss Account 90,000 45,000
(50% x Rs.90,000)
45,000
(50% x Rs.90,000)
Total Rs. 2,43,000 Rs. l,28,400 Rs. 1,14,600
Share of C Ltd. (62.5% of above) Rs.80,250 Rs.71,625
2. Cost of Control
Particulars Rs. Rs. Rs.
Cost of Investment
Nominal Value of Equity Capital
Nominal Value of Preference Capital Share in
Capital Profit
(A)
(50,000 x Rs. 10)
(20,000 x Rs. 20)
7,50,000 8,50,000 10,00,000
5,00,000
2,00,000
80,250
5,00,000
2,00,000
80,250
5,00,000
2,00,000
80,250
Total of Above (B) 7,80,250 7,80,250 7,80,250
Goodwill (if A B) (A-B) — 69,750 2,19,750
Capital Reserve (if B A) (B-A) 30,250 — —
Illustration 5: Cost of Control - For Ex-Dividend and Cum-Dividend Acquisition
D Ltd. has made the following investments in S Ltd. a few years before –
1. 6,000 Equity Shares of Rs.10 each at Rs.1,50,000.
2. 200 12% Preference Shares of Rs.100 each at Rs.30,000.
3. 500 10% Debentures at Rs.95 per Debenture.
The Capital Profits of S Ltd. have been ascertained at Rs.96,000.
Determine the cost of control, under the following situations –
1. Shares were purchased Cum-Dividend and Equity Dividend was declared at 20% and the dividends were
(a) Credited to Profit and Loss Account
(b) Credited to Investment Account
2. Shares were purchased Ex-Dividend and Equity Dividend was declared at 20% and the dividends were
(a) Credited to Profit and Loss Account
(b) Credited to the Investment Accounts

243
Solution:
1. Cost of Control
Particulars Cum-Dividend Ex-Dividend
Credited to PL A/c Invt. A/c PL A/c Invt. A/c
Cost of Investment
Equity Capital 1,50,000 1,50,000 1,50,000 1,50,000
Preference Capital 30,000 30,000 30,000 30,000
Total Cost of Investment 1,80,000 1,80,000 1,80,000 1,80,000
Adjustment for Dividend out of Pre–Acquisition Profits
Less: Only for Cum Dividend Purchase
Preference Dividend (12% x Rs.20,000) (2,400) – N.A. N.A.
Equity Dividend (20% x Rs.60,000) (12,000) – N.A. N.A.
Add: Only for Ex-Dividend Purchase
Preference Dividend (12% x Rs.20,000) N.A. N.A. – 2,400
Equity Dividend (20% x Rs.60,000) N.A. N.A. – 12,000
Corrected Cost of Investment (A) 1,65,600 1,80,000 1,80,000 1,94,400
Nominal Value of Equity Capital (6,000 x Rs.10) 60,000 60,000 60,000 60,000
Nominal Value of Pref. Capital (200 x Rs.100) 20,000 20,000 20,000 20,000
Share in Capital Profit 96,000 96,000 96,000 96,000
Total of Above (B) 1,76,000 1,76,000 1,76,000 1,76,000
Goodwill (if A B) (A - B) – 4,000 4,000 18,400
Capital Reserve (if B A) (B - A) 10,400 – – –
Note: Investment in Debentures are not considered for determining Cost of Control since as per AS 21, Cost of
Control is required to be determined only to the extent of share in the Equity of the Subsidiary i.e. Shareholders
Networth. Debentures are excluded in computing Shareholders Networth and hence should not be considered
in the determining Cost of Control. Gain or Loss on elimination of mutually held Debentures in the consolidation
process will be adjusted against Group Reserves.
Illustration 6: Minority Interest
X Ltd. acquired 75% of the Equity Shares of Y Ltd. From the following Balance Sheet as at 31st
December of Y Ltd. and
additional information furnished, determine Minority Interest in Y Ltd. as on Balance Sheet date
Share Capital: Equity Capital (Rs.100) 20,00,000 Fixed Assets: (Net Block) 40,00,000
Reserves: Securities Premium 3,00,000 Current Assets: Stock in Trade 20,00,000
General Reserve 7,00,000 Debtors 12,00,000
Profit and Loss Account 12,00,000 Other Current Assets 8,00,000
Current Liabs: Creditors
Bank Overdraft
14,00,000
24,00,000
Total 80,00,000 Total 80,00,000
When X Ltd. acquired shares, balances in Reserves of Y Ltd. were as under - (a) Securities Premium Rs.3,00,000;
(b) General Reserve Rs.1,00,000; (c) Profit and Loss Account Rs.4,00,000.
Solution:
1. Basic Information
Company Status Dates Holding Status
Holding Company = X
Subsidiary = Y
Acquisition: Not Available
Consolidation: 31st
December
Holding Company = 75%
Minority Interest = 25%

244
2. Analysis of Reserves and Surplus of Y Ltd.
(a) Securities Premium
Balance as per Balance Sheet Rs. 3,00,000
Balance on date of acquisition Acquisition to Consolidation
Rs. 3,00,000 (balancing figure) Rs.NIL
Capital Profit Securities Premium
(b) General Reserve
Balance as per Balance Sheet Rs.7,00,000
Rs.1,00,000 (balancing figure) Rs.6,00,000
Capital Profit Revenue Reserve (General Reserve)
(c) Profit and Loss Account
Capital Profit Revenue Profit (PL A/c)
3. Analysis of Net Worth of Y Ltd.
Particulars
Total Share of
X Ltd.
Minority
Interest
100% 75% 25%
(a) Equity Share Capital
(b) Capital Profits Securities Premium
General Reserve
Total
(c) Revenue Reserves General Reserve
(d) Revenue Profits Profit Loss A/c
20,00,000 15,00,000
6,00,000
4,50,000
6,00,000
5,00,000
2,00,000
1,50,000
2,00,000
3,00,000
1,00,000
4,00,000
8,00,000
6,00,000
8,00,000
Minority Interest 10,50,000
Illustration 7: Minority Interest - Investment in Preference Capital
J Ltd. acquired 60% of the Equity Shares and 35% of Preference Shares of K Ltd. The Balance Sheet of K Ltd. as on 31st
December is as under —
Share Capital: Equity Capital (Rs.100) 3,75,000 Fixed Assets: (Net Block) 5,50,000
Pref. Capital (Rs.100) 2,50,000 Current Assets: Stock In Trade 1,70,000
Reserves: Capital Reserve 37,500 Debtors 1,87,500
General Reserve 1,70,000 Other Current Assets 67,500
Profit and Loss Account 42,500 Miscellaneous Expenditure:
Current Liabs: Creditors 1,25,000 Preliminary Expenses 25,000
Total 10,00,000 Total 10,00,000
When J Ltd. acquired shares, balances in Reserves of K Ltd. were as under – (a) Capital Reserve Rs.20,000;
(b) General Reserve Rs.45,000; (c) Profit and Loss Account Rs.67,500; (d) Preliminary Expenses Rs.25,000.
Determine Minority Interest for the purpose of Consolidation.

245
Solution:
Holding Company = J Ltd.
Subsidiary = K Ltd.
Acquisition: Not Available
Consolidation: 31st
December
2. Analysis of Reserves and Surplus of J Ltd.
(a) Capital Reserve
Balance as per Balance Sheet Rs.37,500
Rs.20,000 (balancing figure) Rs.17,500
Capital Profit Capital Reserve
(b) General Reserve
Rs.45,000 (balancing figure) Rs.1,25,000
Capital Profit Revenue Reserve (General Reserve)
(c) Profit and Loss Account
Rs.67,500 (balancing figure) (Rs.25,000)
Capital Profit Revenue Profit (PL A/c)
(d) Preliminary Expenses
(Rs.25,000) (balancing figure) Rs.NIL
Capital Profit Preliminary Expenses
3. Analysis of Net Worth of K Ltd.
Particulars
Total Share of
Manu Ltd.
Minority
Interest
100% 60% 40%
(b) Pref. Share Capital [35 : 65]
(b) Capital Profits Capital Reserve
General Reserve
Preliminary Expenses
Total
(c) Capital Reserve
(c) Revenue Reserves General Reserve
(d) Revenue Profits Profit Loss A/c
3,75,000 2,25,000
87,500
1,29,000
21,000
1,50,000
(30,000)
1,50,000
1,62,500
86,000
14,000
1,00,000
(20,000)
2,50,000
20,000
90,000
1,35,000
(50,000)
2,15,000
35,000
2,50,000
(50,000)

246
Illustration 8: Elimination of Unrealized Profits – Stock Movement
From the following information determine the amount of unrealized profits to be eliminated and the
apportionment of the same, if Ca Ltd. holds 75% of the Equity Shares of D Ltd. -
1. Sales by C Ltd. to D Ltd. -
(a) Goods costing Rs.5,00,000 at a profit of 20% on Sale Price. Entire stock were lying unsold as on the Balance
Sheet date.
(b) Goods costing Rs.7,00,000 at a profit of 25% on Cost Price. 40% of the goods were included in closing stock
of D.
2. Sales by D Ltd. to C Ltd. -
(a) Goods sold for Rs.7,50,000 on which D made profit of 25% on Cost. Entire stock were at C’s godown as
on the Balance Sheet date.
(b) Goods sold for Rs.9,00,000 on which D made profit of 15% on Sale Price. 70% of the value of goods were
included in closing stock of C.
Solution:
Transaction Sale by C Ltd. (Molding) to D Ltd. (Subsidiary)
Nature of Transaction Downstream Transaction
Profit on Transfer Cost Rs.5,00,000 x Profit on Sale 20%
÷ Cost on Sale 80% = Rs.1,25,000
Cost Rs.70,0000 x Profit on
Cost25% = Rs.l,75,000
% of Stock included in Closing Stock 100% 40%
Unrealized Profits to be eliminated
(transferred to Stock Reserve)
Rs. 1,25,000 x 100%
= Rs.1,25,000
Rs. 17,500 x 40%
= Rs.70,000
Share of Majority - Reduced from
Group Reserves
100% x Rs. 1,25,000
= Rs.1,25,000
100% x Rs.70,000
= Rs.70,000
Share of Minority (Unrealized Profit on Downstream Transactions is fully adjusted against
Group Reserves. Minority Interest is not relevant)
Transaction Sale by D Ltd. (Subsidiary) to C Ltd. (Holding)
Nature of Transaction Upstream Transaction
Profit on Transfer Sale Rs.7,50,000 x Profit on Cost 25%
÷ Sale to Cost 125% = Rs. 1,50,000
Sale Rs.9,00,000* Profit on Cost
15% = Rs.l,35,000
% of Stock included in Closing Stock 100% 70%
Unrealized Profits to be eliminated
(reduced from Closing Stock)
Rs. 15,0000 x 100%
= Rs.l5,000
Rs. 1,35,000 x 70%
= Rs.94,500
Share of Majority - Reduced from
Group Reserves
Share of Majority 75% x Unrealized
Profits Rs. 1,50,000
= Rs.l,12,500
Share of Majority 75% x
Unrealized Profits Rs.94,500
= Rs.70,875
Share of Minority - Reduced from
Minority Interest
Share of Minority 25% x Unrealized
Profits Rs. 1,50,000
= Rs.37,500
Share of Minority 25% x
Unrealized Profits Rs.94,500
= Rs.23,625
Illustration 9: Elimination of Unrealized Profits - Transfer of Assets
In each of the following cases, ascertain (a) Unrealized Profits to be eliminated; (b) Unrealized Profits adjusted
against Holding Company’s Reserve and Minority Interest; and (c) balance in Asset Account as appearing in the
Consolidated Balance Sheet –

247
(a) A Machine costing Rs.3,50,000 has been sold by Z Ltd. to its subsidiary F Ltd. (FPL) for Rs.4,20,000. During
the year F Ltd. has charged depreciation of Rs.3,50,000 on the machinery. Z Ltd. holds 80% of the Equity
of F Ltd. Machinery Account balance as appearing in the books of Companies - Z Ltd. Rs.9,57,500; F Ltd.
Rs.6,85,000.
(b) C Ltd. sold 8 Workstations to its parent S Ltd. at Rs.25,000 each. The total cost of the Workstations to C
was Rs.9,75,000. S holds 70% of the Equity Capital in C. The balances in the Asset Account “Computer and
Peripherals” were – C Rs.2,50,000; S Rs.5,00,000. Depreciation at 30% was charged by S on the Workstations
purchased from C.
Solution:
Sold by Z Ltd. (Holding Co.) C Ltd. (Subsidiary Co.)
Purchased by F Ltd. (Subsidiary Co.) S Ltd. (Holding Co.)
Nature of transfer Downstream Transfer Upstream Transfer
Sale Price
Less: Cost to Seller
Rs.4,20,000
Rs.3,50,000
Rs.25,000 x 8 = Rs.2,00,000
Rs. 97,500
A. Profit on Transfer Rs. 70,000 Rs. 1,02,500
B. Rate of Depreciation 35,000/4,20,000 - 8.33% 30%
C. Depn. on profit element (AxB) 70,000 x 8.33% = Rs.5,831 1,02,500 x 30% = Rs.30,750
Unrealized Profit to be eliminated (A - C) Rs.64,169 Rs.71,750
- Adjusted against Holding Co’s Reserves 100% x Rs.64,169 =
Rs.64,169
Share of Holding Co. 70% x
Rs.71,750 = Rs.50,225
- Adjusted against Minority Interest Unrealized profits on downstream
transfer are adjusted fully against
Group Reserves only
Share of Minority 30% x
Rs.71,750 = Rs.21,525
Consolidated Asset Balance (Holding Co.
bal. + Subsidiary Co. bal. Less Unrealized
Profit)
9,57,500 + 6,85,000 - 64,169
= Rs.l5,78,331
2,50,000 + 5,00,000 - 71,750
= Rs.6,78,250
Illustration 10: Elimination of Mutual Owings
The following balances are extracted from the Balance Sheets of X Ltd. and Y Ltd. -
Particulars X Ltd. Y Ltd.
Bills Payable 7,50,000 4,50,000
Trade Creditors 5,00,000 7,00,000
Bills Receivable 3,50,000 5,00,000
Trade Debtors 8,00,000 7,00,000
Contingent Liability for Bills Discounted 2,00,000 1,50,000
Additional Information –
1. X Ltd. is wholly owned subsidiary of Y Ltd.
2. Creditors of X Ltd. include Rs.2,50,000 due to Y for goods supplied by it for Rs.3,00,000. Debtors of X however
shows a Debit balance of Rs.3,00,000 due from Y. Y had remitted Rs.50,000 by Demand Draft to X which was
not received by X on the Balance Sheet date.
3. Bills payable of Y include Rs.3,00,000 drawn in favour of X Ltd. X had discounted bills worth Rs.1,20,000
with its bankers.
Determine how the above given balances will be disclosed in the Consolidated Balance Sheet of X Ltd.

248
Solution:
Particulars Bills
Payable
Bills
Receivable
Creditors Debtors Contingent
Liabilities
X Ltd. 7,50,000 3,50,000 5,00,000 8,00,000 2,00,000
Y Ltd. 4,50,000 5,00,000 7,00,000 7,00,000 1,50,000
Total before adj. Mutual Owings 12,00,000 8,50,000 12,00,000 15,00,000 3,50,000
Less: Mutual Owings
– For goods supplied – – (2,50,000) (3,00,000) –
– Bills drawn in favour of Upul (Only
to the extent not discounted is (1,80,000) (1,80,000) – – –
reduced) (30,000-12,000)
– Bills discounted (Only mutual bills
discounted is reduced)
– – – – (1,20,000)
Balance for Cons. Balance Sheet 10,20,000 6,70,000 9,50,000 12,00,000 2,30,000
Note: In addition to the above, in the Consolidated Balance Sheet, Rs.50,000 will be lown as “Remittance-in
Transit” under Current Assets after Trade Debtors and Bills Receivable.
Illustration 11: Consolidated Balance Sheet – Line to Line Addition
From the Balance Sheets and information given below, prepare Consolidated Balance Sheet of A Ltd. and K Ltd.
as at 31st
December, 2008 -
Liabilities A K Assets A K
Equity Capital (Rs.10)
General Reserve
8% Debentures
Creditors
30,000
5,000
10,000
5,000
20,000
5,000
5,000
5,000
Fixed Assets
Investment in Shares of K
Current Asset: Stock in Trade
Debtors
Cash Bank
20,000
16,000
8,000
4,000
2,000
15,000
–
10,000
7,000
3,000
Total 50,000 35,000 Total 50,000 35,000
A Ltd. holds 80% of Equity Shares in K since its incorporation. Prepare Consolidated Balance Sheet.
Solution:
Holding Co. = A
Subsidiary = K
Acquisition: K Incorporation
Consolidation: 31st
December
2. Analysis of General Reserves of K Ltd.
Rs.NIL (balancing figure) Rs.50,000
Capital Profit Revenue Reserve
Note: Since A holds shares in K since its incorporation, the entire Reserve balance will be Revenue.
3. Analysis of Net Worth of K Ltd.
Particulars Total A 80% Minority 20%
(b) Capital Profits
(c) Revenue Reserve (General Reserve)
20,000
NIL
5,000
16,000
–
4,000
4,000
–
1,000
Minority Interest 5,000

249
4. Cost of Control
Particulars Rs.
Cost of Investment
Less: Nominal Value of Equity Capital
Less: Share of Capital Profits
16,000
(16,000)
NIL
Goodwill / Capital Reserve NIL
Note: If shares are purchased and held from the date of incorporation of subsidiary, there will not be any Goodwill or Capital
Reserve.
5. Consolidation of Reserves
Particulars Rs.
Balance as per Balance Sheet
Add: Share of Revenu Reerves
5,000
4,000
Consolidated Balance 9,000
6. Consolidated Balance Sheet of A Ltd. and its subsidiary K Ltd. as at 31st
December
Share Capital: Equity Capital (Rs.10)
Reserves: General Reserve
Minority Interest
Secured Loans:
8% Debentures (10,000 + 5,000) Current
Liabs:Creditors (5,000+5,000)
30,000
9,000
5,000
15,000
10,000
Fixed Assets (20,000 + 15,000)
Current Assets:
Stock (8,000 + 10,000)
Debtors (4,000 + 7,000)
Cash Bank (2,000 + 3,000)
35,000
18,000
11,000
5,000
Illustration 12: Consolidated Balance Sheet – Investment in Debentures – Line Addition
The Balance Sheets of B Ltd. and S Ltd. as at 31st
December are given below –
Liabilities B S Assets B S
Equity Capital (Rs.10) 60,00,000 30,00,000 Fixed Assets 60,00,000 35,00,000
General Reserve 10,50,000 10,00,000 Investment
Profit and Loss Account 10,00,000 5,00,000 - in 24,000 Shares of S 26,00,000 –
8% Debentures (Rs.100) 20,00,000 10,00,000 - in 500 Debentures of S 6,00,000 –
Bills Payable 6,00,000 7,00,000 - in 1000 Debentures of B – 9,50,000
Creditors 9,00,000 8,00,000 Current/asset Stock in Trade 10,00,000 12,00,000
Debtors 15,00,000 10,00,000
Cash Bank 3,00,000 3,50,000
Total 12,00,000 7,00,000 Total 120,00,000 70,00,000
The investments in S Ltd. were made on the same day when S’s General Reserve was Rs.5,00,000 and Profit and
Loss Account balance showed Rs.2,00,000.
Prepare Consolidated Balance Sheet.
Solution:
Holding Co. = B
Subsidiary = S
Acquisition: Not Given
Consolidation: 31st
December
Holding Company (240,000 ÷ 300,000) = 80%

250
2. Analysis of Reserves and Surplus of S Ltd.
(a) General Reserve
Balance as per Balance Sheet Rs. 10,00,000
(b) Profit and Loss A/c
Rs.20,000 (balancing figure) Rs.30,000
3. Analysis of Net Worth of S Ltd.
Particulars Total
B
80%
Minority
20%
(a) Share Capital Equity Share Capital
(b) Capital Profits General Reserve
Total
(c) Revenue Reserve General Reserve
(d) Revenue Profits Profit and Loss Account
30,00,000 24,00,000
5,60,000
4,00,000
2,40,000
6,00,000
1,40,000
1,00,000
60,000
5,00,000
2,00,000
7,00,000
5,00,000
3,00,000
4. Cost of Control
Particulars Rs.
Cost of Investment
Less: Share of Capital Profits
26,00,000
(24,00,000)
(5,60,000)
Capital Reserve on Consolidation (3,60,000)
5. Gain or Loss on elimination of Intra-Group Debentures
Particulars Rs.
Cost of Investment B in S
S in B
6,00,000
9,50,000
Less: Total Cost of Investment
Nominal Value of Debentures
(50,000+ 10,00,000) 15,50,000
(15,00,000)
Loss on Elimination (Adjusted against Group Reserves) 50,000
6. Consolidation of Reserves and Surplus
Particulars Gen. Res. PL A/c
Balance as per Balance Sheet
Add: Share of Revenue
Less: Loss on Elimination of Debentures
1,50,000
4,00,000
–
10,00,000
2,40,000
(50,000)
Consolidated Balance 19,00,000 11,90,000

251
7. Consolidated Balance Sheet of B Ltd. and its subsidiary S Ltd. as at 31s1
December
Share Capital: Equity Capital (Rs.10)
Reserves: General Reserve
Proﬁt and Loss A/c
C/R on Consolidation
Minority Interest
Secured Loans:
8% Debentures (2,000 + 1,00 - 1,500 Mutual)
Current Liabs: Bills Payable (600 + 700)
Creditors (900 + 800)
60,00,000
19,00,000
11,90,000
3,60,000
9,00,000
15,00,000
13,00,000
17,00,000
Fixed Assets (6,00 + 3,50)
Current Assets:
Stock (1,00 + 1,20)
Debtors (1,50 + 1,00)
Cash Bank (30 + 35)
95,00,000
22,00,000
25,00,000
6,50,000
Total 1,48,50,000 Total 1,48,50,000

252
B. BONUS SHARES
Illustration 13: Bonus issue - Before and After
On 31.03.2003, R Ltd. acquired 1,05,000 Shares of S Ltd. for Rs.12,00,000. The Balance Sheet of S Ltd. on that date
was as under - (Rs.000’s)
1,50,000 Equity Shares of Rs.10 each fully paid
Pre-lncorporation Profits
Creditors
1,500
30
60
105
Fixed Assets
Current Assets
1,050
645
On 31.03.2009, the Balance Sheets of the two Companies were as follows - (Rs.000’s
Liabilities R S Assets R S
Equity Shares of Rs.10 each fully paid
(before Bonus Issue)
4,500 1,500 Fixed Assets 7,920 2,310
1,05,000 Equity Shares in 1,200 –
Securities Premium 900 – S Ltd. at Cost
Pre-lncorporation Profits – 30 Current Assets 4,410 1,755
Profit and Loss Account 1,575 420
Creditors 555 210
Total 13,530 4,065 Total 13,530 4,065
Directors of S Ltd. made a bonus issue on 31.03.2009 in the ratio of one Equity Share of Rs.10 each fully paid for
every two Equity Shares held on that date.
Calculate as on 31.3.2009 (i) Cost of Control/Capital Reserve ; (ii) Minority Interest; (iii) Consolidated Profit and
Loss Account in each of the following cases: (1) Before issue of Bonus Shares; (2) Immediately after the issue of
Bonus Shares. It may be assumed that Bonus Shares were issued out of Post-Acquisition Profits by using General
Reserve.
Prepare a Consolidated Balance Sheet after the Bonus Issue.
Solution:
Holding Company = R Ltd.
Subsidiary = S Ltd.
Acquisition: 31.03.2003
Consolidation: 31.03.2009
2. Analysis of Reserves and Surplus of S Ltd.
(a) Pre-lncorporation Profits = Rs. 30,000 – Capital Profit
(b) General Reserve
Before Bonus Issue After Bonus Issue
As on 31.3.2009 19,05,000 As on 31.3.2009
Bonus Issue
Corrected Bal
19,05,000
7,50,000 (15 Lacs x 1/2)
11,55,000
As on 01.04.03
NIL
Capital
Tfr between 01.04.03 31.3.2009
19,05,000
Revenue
01.04.2003
NIL
Capital
Tfr between 1.4.03 3 1.3.09
11,55,000
Revenue

253
(c) Profit Loss Account
As on 31.03.2009 Rs.4,20,000
As on 01.04.2003 60,000 Profits between 01.04.2003 31.03.2009 3,60,000
Capital Revenue
Particulars
Total R Minority Total R Minority
100% 70% 30% 100% 70% 30%
(a) Share Capital
Add: Bonus Issue
Pre Incorporation Profits
General Reserve
(c) Revenue Reserve: Gen. Reserve
(d) Revenue Profits: P L A/c
15,00,000
–
10.50,000
63,000
13,33,500
2,52,000
4,50,000
27,000
5.71,500
1,08,000
15,00,000
7,50,000
15,75,000
63,000
8,08,500
2,52,000
6,75,000
27,000
3,46,500
1,08,000
15,00,000
30,000
NIL
60,000
22,50,000
30,000
NIL
60,000
90,000 90,000
19,05,000 11,55,000
3,60,000 3,60,000
Minority Interest 11,56,500 11,56,500
4. Cost of Control
Particulars Before Bonus Issue After Bonus Issue
Cost of Investment
Less: (a) Nominal Value of Share Capital
(b) Share in Capital Profits
12,00,000
(10,50,000)
(63.000)
12,00,000
(15.75,000)
(63,000)
Goodwill / Capital Reserve on Consolidation 87,000 (4,38,000)
5. Consolidation of Reserves Surplus
Particulars
Gen. Res. PL A/c Gen. Res. PL A/c
Balance as per Balance Sheet of R Ltd.
Add: Share of Revenue
60,00,000
13,33,500
15,75,000
2,52,000
60,00,000
8,08,500
15,75,000
2,52,000
Consolidated Balance 73,33,500 18,27,000 68,08,500 18,27,000
6. Consolidated Balance Sheet of R Ltd. and its subsidiary S Ltd. as at 31.03.2009
Share Capital: Equity Share Capital
Reserves Surplus General Reserve
Securities Premium
Capital Reserve on Consolidation
Minority Interest
Current Liabilities: [5,55,000 + 2,10,000]
45,00,000
68,08.500
18,27,000
9,00,000
4,38,000
11,56,500
7,65,000
Fixed Assets
[79,20,000 + 23,10,000]
Current Assets:
[44,10,000 + 17,55,000]
1,02,30,000
61,65,000
Total 1,63,95,000 Total 1,63,95,000

254
Illustration 14: Bonus Issue - Unrealized Profits
On 31.03.2009 the Balance Sheets of H Ltd. and its subsidiary S Ltd. stood as follows (in Rs. Lakhs) -
Liabilities H Ltd. S Ltd. Assets H Ltd. S Ltd.
Share Capital: Land and Buildings 2,718 –
Authorised
Issued and Subscribed:
15,000 6,000 Plant and Machinery
Furniture and Fittings
4,905
1,845
4,900
586
Equity Shares (Rs.10) Fully
Paid
12,000 4,800 Investments in shares in
S Ltd.
3,000 –
General Reserve 2,784 1,380 Stock 3,949 1,956
Profit and Loss Account 2,715 1,620 Debtors 2,600 1,363
Bills Payable 372 160 Cash and Bank Balances 1,490 204
Sundry Creditors 1,461 854 Bills Receivable 360 199
Provision for Taxation 855 394 Sundry Advances 520 –
Proposed Dividend 1,200 –
21,387 9,208 21,387 9,208
The following information is also provided to you:
1. H Ltd. purchased 180 Lakhs shares in S Ltd. on 01.04.2008 when the balances to General Reserve and Profit
and Loss Account of S Ltd. stood at Rs. 3,000 Lakhs and Rs.1,200 Lakhs respectively.
2. On 04.07.2008 S Ltd. declared a dividend @ 20% for the year ended 31.03.2008. H Ltd. credited the dividend
received by it to its Profits and Loss Account.
3. On 01.01.2008 S Ltd. issued 3 fully paid-up shares for every 5 shares held as Bonus Shares out of balances in
its General Reserve as on 31.03.2008.
4. On 31.03.2009 all the Bills Payable in S Ltd.’s Balance Sheet were acceptances in favour of H Ltd. But on that
date, H Ltd. held only Rs.45 Lakhs of these acceptances in hand, the rest having been endorsed in favour of
its Creditors.
5. On 31.03.2009 S Ltd.’s stock included goods which it had purchased for Rs.100 Lakhs from H Ltd. which
made a profit @ 25% on cost.
Prepare a Consolidated Balance Sheet of H Ltd. and its subsidiary S Ltd. as at 31.03.2009 bearing in mind the
requirements of AS 21.
Solution:
Holding Company = H
Subsidiary = S
Shareholding Pattern - % of Holding by H Ltd.
Date Particulars No. of Shares
01.04.2008
01.01.2009
31.03.2009
Original Purchase
First Bonus Issue (3/5 x 1,80,000)
Total Shares held by H Ltd. in S Ltd.
180
108
288
Total Shares outstanding in S Ltd. (Rs.4,800 Lakhs / Rs.10) 480
% of Holding (288 / 480) 60%

255
2. Analysis of Reserves and Surplus of S Ltd. (Rs. Lakhs)
(a) General Reserves
Balance as on 31.03.2009 Rs. 1,380
Balance on 1.4.2008 (as oi. acqn. date) Rs.3,000 Transfer during 2008-09 (upto Consolidation
Less: Bonus Issue (108/60% x Rs. 10) Rs. 1,800 (balancing figure) Rs.180
Balance Capital Profit Rs. 1,200 Revenue Reserve
(b) Profit and Loss Account
Balance as on 31.03.2009 Rs. 1,620
Balance on 01.04.2008 (as on acqn. date) Rs. 1,200 Profit for 2008-09 (upto Consolidation)
Less: Dividend (Rs.3000 x 20%) Rs. 600 (balancing figure) Rs.1020
Balance Capital Profit Rs. 600 Revenue Profit
3. Analysis of Net Worth of S Ltd. (Rs. Lakhs)
Particulars
Total H Minority
100% 60% 40%
(a) Equity Capital
Total Capital Profits
(c) Revenue Res. General Reserve
(d) Revenue Profit Profit and Loss Account
4,800 2,880
1,080
108
612
1,920
720
72
408
1,200
600
1,800
180
1,020
4. Cost of Control
Particulars Rs.Lakhs
Cost of Investment
Less: Pre-Acquisition Dividend Received (Rs. 1,800 x 20%)
3,000
360
Adjusted Cost of Investment
Less: Nominal Value of Share Capital
Share in Capital Profit of S Ltd.
2.880
1,080
2,640
(3,960)
Capital Reserve on Consolidation 1,320
5. Consolidation of Reserves and Surplus (Rs.Lakhs)
Particulars Gen. Res. PLA/c
Balance as per Balance Sheet of H Ltd.
Less: Pre-Acquisition Dividend wrongly credited to PL A/c
2,784 2,715
(360)
Add: Share of Revenue from S Ltd.
2,784
108
2,355
612
Consolidated Balance
Less: Unrealized Profit on Closing Stock (Rs. 100 x 25%/125%)
2,892 2,967
(20)
Adjusted Consolidated Balance 2,892 2,947

256
6. Consolidated Balance Sheet of H Ltd. and its subsidiary S Ltd. as on 31.03.2009
Liabilities Rs.Lakhs Assets Rs.Lakhs
Share Capital: Authorised
Issued and Paid up
15,000 Fixed Assets
Land and Buildings 2,718
12,000
Reserves Surplus Plant Machinery (4,905 + 4,900) 9,805
C/R on Consolidation 1,320 Furniture and Fittings (1,845 + 586) 2,431
Profit and Loss Account 2,947 Current Assets:
General Reserve 2,892 Stock (3,949 + 1,956 - 20 Unrealized Pft) 5,885
Minority Interest 3,120 Trade Debtors (2,600 + 1,363) 3,963
Current Liabilities: Cash and Bank (1,490 + 204) 1,694
Bills Payable (372 + 160 - 45 Mutual) (Set off) 487 BillsReceivable(360+199-45Mutual)(Setoff) 514
Sundry Creditors (1,461 +854) 2,315 Sundry Advances 520
Provision for Taxation (855 + 394) 1,249
Illustration 15: Bonus Issue, Reverse Working for Bonus Amount - Investment in Debentures
Balance Sheet of P Ltd. and Q Ltd. as at 31.12.2008 is given below (Rs. in 000’s)-
Liabilities P Q Liabilities P Q
Equity Share Capital (Rs.10) 5,000 2,400 Goodwill 300 200
Securities Premium 200 140 Buildings 1,000 1,000
General Reserve 1,000 1,600 Machinery 4,000 2,440
Profit Loss Account 900 600 Investment in Shares:
8% Debentures 2,000 1,000 -1,92,000 Shares of Q Ltd. 1,500
Trade Creditors 800 400 Investments in Debentures:
Outstanding Expenses 300 150 - In Q Ltd. (Face Value Rs.4,00,000) 450
- In P Ltd. (Face Value Rs.2,00,000) 220
Sundry Debtors 1,500 1,000
Stock 1,000 1,000
Cash and Bank 200 100
Preliminary Expenses 100 50
Outstanding Income 150 280
Total 10,020 6,290 Total 10,200 6,290
1. When the Shares were acquired, Q Ltd. had Rs.2.2 Lakhs in General Reserve and Rs.1,00,000 in Securities
Premium, Rs.3,00,000 (Dr.) in Profit and Loss Account.
2. Two years after the date of acquisition Bonus Shares at 1 to 1 were issued out of General Reserve.
3. One year after the Bonus issue, Rights Shares were issued at 10% Premium at 1 for 5 held and P Ltd.
purchased all the shares offered to it.
4. P Ltd. received Rs.1,92,000 dividend for the last year and Rs.96,000 interim dividend in the current year, i.e.
3 years after the Rights Issue.
5. For the current year 15% dividend (including Interim Dividend) has been proposed by Q Ltd., 10% by
P Ltd., but no effect has yet been given in the accounts.
6. On the same day referred to in (5) above, Bonus Dividend has been declared at 1 to 2, but no effect has yet
been given.
7. 50% of the shares originally purchased in Q Ltd. were paid for to the shareholders of Q Ltd. by 50,000 shares
of P Ltd. issued at 10% premium.
8. Debenture Interest of both the Companies falls due on 31st
December, but payments are made 2 or 3 days after.
Prepare Consolidated Balance Sheet as at 31.12.2008.

257
Solution:
Holding Company = P
Subsidiary = Q
Consolidation: 31.12.2008 Holding Company = 80%
Shares held as on 31.12.2008 1,92,000
Add: Second Bonus Issue (1,92,000 xl/2) 96,000
Actual Shareholding 2,88,000
DOA - 1 (Original First Bonus Issue DOA - 2 Rights Second Bonus Issue
Acquisition) (1 : 1 as at DOA-1) Issue (1 :2 as at DOA-2)
80,000 80,000 32,000 96,000
(balancing figure) [(1,92,000 - 32,000) ÷ 2] [1,92,000 x l ÷ (5 + 1)]
40,000 40,000
For Cash For Shares of P Ltd.
2. Analysis of Reserves Surplus of Q Ltd.
(a) Securities Premium
Balance on 31.12.2008 Rs. 1,40,000
DOA-1 Rs. 1,00,000 Proceeds from Rights Issue Rs.40,000
Capital Profit Capital
(b) General Reserve
Shares held as on 31.12.2008 16,00,000
Add: Second Bonus Issue (24,00,000 x 1 / 2) 12,00,000
Adjusted Balance 40,00,000
DOA-1 Rs.22,00,000 Additions upto Consolidation
Less: First Bonus (Rs. 10,00,000) (80,000 Shares/80% x Rs. 10) (balancing figure) Rs. 4,00,000
Less: Second Bonus (Rs. 12,00,000) Revenue Reserve
Capital Profit Rs. NIL
Note: In the absence of information in this regard, it is presumed that the second bonus issue has been made out
of reserves as on the date of controlling acquisition.
(c) Profit Loss Account
Balance as on 31.12.2008 6,00,000
Less: Debenture Interest (10,00,000 x 8%) (80,000)
Add: Debenture Interest from P (2,00,000 x 8%) 16,000
Less: Proposed Dividend (24,00,000 x 15% – Interim 1,20,000) (2,40,000) (See Note)
DOA - 1 Additions to PL A/c
(Rs. 3,00,000) Debit balance given Rs. 5,96,000
Capital Profit Revenue Profit
Note: Interim Dividend received by Holding Company = Rs.96,000 for 80% holding. Hence, Total Interim
Dividend paid by Subsidiary = Rs.96,000 ÷ 80% = Rs. 1,20,000

258
3. Analysis of Net Worth of Q Ltd.
Particulars Total P Minority
100% 80% 20%
(a) Equity Share Capital: (including Bonus Rs. 12,00,000)
(b) Capital Profits: Securities Premium Account
General Reserve
(c) Securities Premium (after acquisition date)
(d) Revenue Reserves: General Reserve
(e) Revenue Profits: Profit Loss A/c
(f) Proposed Equity Dividend
36,00,000 28,80,000
(2,00,000)
32,000
3,20,000
4,76,800
1,92,000
7,20,000
(50,000)
8,000
80,000
1,19,200
48,000
1,00,000
NIL
(3,00,000)
(50,000)
(2,50,000)
40,000
4,00,000
5,96,000
2,40,000
4. Cost of Control
Particulars Rs.
Cost of Investment
Less: (1) Nominal Value of Equity Capital
(2) Share in Capital Profit of Q Ltd.
28,80,000
(2,00,000)
15,00,000
(26,80,000)
5. Gain / Loss on Consolidation of Debentures
Particulars Rs.
Cost of Investment in Debentures:
Lavanya Ltd. in P Ltd.
Karunya Ltd. in Q Ltd.
Less: Face Value of Debentures (Rs.20,000 + Rs.40,000)
2,20,000
4,50,000 6,70,000
(6,00,000)
Loss on Consolidation of Debentures (Adjusted against Group Reserves) 70,000
Particulars
Securities
Premium
Gen. Res PL A/c
Balance as per Balance Sheet of P Ltd.
Less: Proposed Dividend (Rs.50,00,000 x 10%)
Less: Debenture Interest Due (Rs.20,00,000 * 8%)
Add: Share of Dividend from Q Ltd. (Rs.2,40,000 x 80%)
Add: Share of Debenture Int from Q (Rs.4,00,000 x 8%)
2,00,000
–
–
–
10,00,000
–
–
–
–
9,00,000
(5,00,000)
(1,60,000)
1,92,000
32,000
Adjusted Balance
Add: Share of Reserves of Q Ltd.
Less: Loss on Elimination of Debentures on Consolidation
2,00,000
32,000
10,00,000
3,20,000
4,64,000
4,76,800
(70,000)
Consolidated Balance 2,32,000 13,20,000 8,70,800

259
7. Consolidated Balance Sheet of P Ltd. and its Subsidiary Q Ltd. as at 31.12.2009
Securities Premium
General Reserve
Capital Reserve
Secured Loans
8% Debentures (20,00,000 + 10,00,000 -
2,00,000 (held by Q) - 4,00,000
(held by P)
Debenture Interest accrued
Minority Interest:
Current Liabilities:
Sundry Creditors [8,00,000 + 4,00,000]
Outstanding Exp [3,00,000 + 1,50,000]
Proposed Dividend (P Ltd.)
50,00,000
23,2000
13,20,000
8,70,800
11,80,000
24,00,000
1,92,000
9,25,200
12,00,000
4,50,000
5,00,000
Fixed Assets:
Goodwill (3,00,000 + 2,00,000)
Building (10,00,000 + 10,00,000)
Machinery (40,00,000 + 24,40,000)
Current Assets:
Sundry Debtors (15,00,000 + 10,00,000)
Stock in Trade (10,00,000 + 10,00,000)
Cash in Hand (2,00,000 + 1,00,000)
Outstanding Income(1,50,000 + 2,80,000)
Misc. Expenditure (to the extent not
w/off)
5,00,000
20,00,000
64,40,000
25,00,000
20,00,000
3,00,000
4,30,000
1,00,000
Total 1,42,70,000 Total 1,42,70,000
Notes:
• It is presumed that the Companies have not accounted for the inter company owings in respect of Debenture interest
and proposed dividends.
• Interest due on Debenture has been shown under Secured Loans together with Debentures in accordance with Schedule
VI to the Companies Act, 1956.

260
C. REVALUATION OF ASSETS
Illustration 16: Bonus Issue, Asset Revaluation, Interest not recorded
X Ltd. acquired 80,000 Shares of Rs.100 each in Y Ltd. on 30.09.2008. The summarized two Companies as on
31.03.2009 were as follows -
Liabilities X Ltd. Y Ltd. Assets X Ltd. Y Ltd.
Share Capital (Rs.100)
Capital Reserve
General Reserve
Loan from Y Ltd.
Creditors
Bills Payable (including Rs.50,000
to X Ltd.)
3,00,00,000
–
30,00,000
38,20,000
2,10,000
17,90,000
–
1,00,00,000
55,00,000
5,00,000
18,00,000
7,00,000
1,70,000
Fixed Assets
Investments in Y Ltd.
Stock in Hand
Loan to X Ltd.
Debtors
Bank
Bills Receivable (including
Rs.5,000 from Y Ltd.)
1,50,00,000
1,70,00,000
40,00,000
–
25,00,000
2,00,000
1,20,000
1,44,70,000
–
20,00,000
2,00,000
1,08,00,000
2,00,000
–
Total 3,88,20,000 18,67,00,000 Total 3,88,20,000 18,67,00,000
Contingent Liability (X Ltd.): Bills discounted of Rs.60,000.
Additional information:
1. Y Ltd. made a bonus issue on 31.03.2009 of one share for every two shares held, reducing the Capital Reserve
equivalentlly, but the accounting effect to this has not been given in the above Balance Sheet.
2. Interest receivable for the year (Rs.10,000) in respect of the loan due by X Ltd. to Y Ltd. has not been credited
in the accounts of Y Ltd.
3. The credit balance in Profit Loss Account of Y Ltd. on 01.04.2008 was Rs.2,10,000.
4. The Directors decided on the date of the acquisition that the Fixed Assets of Y Ltd. were overvalued and
should be written down by Rs.5,00,000. Consequential adjustments on depreciation are to be ignored.
Prepare the Consolidated Balance Sheet as at 31.03.2009, showing your workings.
Solution:
Holding Company = X Ltd.
Subsidiary = Y Ltd.
2. Analysis of Reserves and Surplus of Y Ltd.
(a) General Reserve
Balance as per B/s Rs.5,00,000
As on 01.04.2008 (Date of previous B/s) Rs.5,00,000 01.04.2008 to 31.03.2009 (upto Consolidation)
Assumed that entire balance is available on this date Rs. NIL (balancing figure)
Balance as on date of Consolidation Rs.18,00,000
Add: Interest on Loan to X (Given) Rs. 10,000
Corrected Balance Rs.18,10,000
Balance on 01.04.2008 Profit for 2008-09 (balancing figure) Rs. 16,00,000
(Date of previous B/s)
Rs.2,10,000 Upto date of acquisition 01.04.2004 to Acquisition to Consolidation 30.09.2008
Capital Profit 30.09.2008 Rs.l6,00,000 x 6/12 to 31.03.2009 Rs.l6,00,000 x 6/ 12
Capital Profit Rs.8,00,000 Revenue Profit Rs.8,00,000
Total Capital Profits: 2,10,000 + 8,00,000 = Rs.10,10,000; Total Revenue Profits: Rs.8,00,000

261
(c) Capital Reserve
Balance as on date of Consolidation Rs. 55,00,000 Remarks
Less: Bonus Issue (Rs. 1,00,00,000 x 1/2) Rs. 50,00,000 The entire balance is
Adjusted Balance Rs. 5,00,000 considered Capital Profits.
(d) Revaluation of Assets: Loss (Rs.5,00,000) = Capital Profit
3. Analysis of Net Worth of Y Ltd.
Particulars Total X Ltd Minority
(a) Share Capital
Add: Bonus Issue [1/2 x 1,00,00,000]
(b) Capital Profits:
General Reserve
Capital Reserve
Loss on Revaluation of Assets
(c) Revenue Reserve:
(d) Revenue Profits:
Profit Loss A/c
100%
1,00,00,000
50,00,000
80%
1,20,00,000
12,08,000
6,40,000
20%
30,00,000
3,02,000
1,60,000
1,50,00,000
5,00,000
10,10,000
5,00,000
(5,00,000)
15,10,000
NIL
8,00,000
4. Cost of Control
Particulars Rs.
Cost of Investment as per B/Sheet
(2) Share in Capital Profit as calculated above
1,20,00,000
12,08,000
1,70,00,000
1,32,08,000
Goodwill on Consolidation 37,92,000
Balance as per Balance Sheet of X Ltd.
Add: Share of Revenue Reserve / Profit from Y Ltd.
30,00,000
NIL
38,20,000
6,40,000
6. Consolidated Balance Sheet of X Ltd. and its Subsidiary Y Ltd. as at 31.03.2009
Share Capital: Equity Share Capital 3,00,00,000 Fixed Assets
Reserves Surplus Goodwill on Consolidation 37,92,000
General Reserve 30,00,000 OtherFixedAssets[1,50,00,000+1,44,70,000
- 5,00,000 (Revaluation Loss)]
2,89,70,000
Profit and Loss Account 44,60,000 Current Assets
Minority Interest 34,62,000 Sundry Debtors [25,00,000 + 18,00,000] 43,00,000
Current Liabilities Stock in Trade [40,00,000 + 20,00,000] 60,00,000
Sundry Creditors [17,90,000 + 7,00,000] 24,90,000 Cash at Bank [2,00,000 + 2,00,000] 4,00,000
B/P [ 1,70,000 - 50,000 (Mutual Owings)] 1,20,000 B/R [1,20,000 - 50,000 (Mutual Owings)] 70,000
Total 4,35,32,000 Total 4,35,32,000
Contingent Liability for Bills Discounted Rs.60,000
Note: Fixed Assets have been revalued for the purpose of Consolidation and the depreciation on the revaluation loss has been
ignored as its specifically stated in the problem.

262
Illustration 17: Invt in PSC, Revaluation of Asset Stock Reserve - Upstream Downstream.
G Ltd. acquired control in S Ltd. a few years back when S Ltd. had Rs.25,000 in Reserve and Rs.14,000 (Cr.) in
Profit Loss Account. Plant Account (Book Value Rs.66,000) of S Ltd. was revalued at Rs.62,000 on the date of
purchase. Equity Dividend of Rs.7,500 was received by G Ltd. out of pre-acquisition profit and the amount was
correctly treated by G Ltd. Debenture Interest has been paid upto date.
Following are the Balance Sheets of G Ltd. and S Ltd. as at 31st December (Rs.000’s) -
Liabilities G S Assets G S
6% Preference Share Capital (Rs.100) 100 50 Goodwill 50 30
Equity Share Capital (Rs.10) 500 100 Land Buildings 200 50
General Reserve 30 30 Plant Machinery 105 100
Profit Loss Account 40 12 Stock in Trade 130 100
6% Debentures NIL 100 Sundry Debtors 90 50
Sundry Creditors 90 60 Bills Receivable 30 10
Due to S Ltd. 10 NIL Due from G Ltd., NIL 12
Bills Payable 20 25 Bank
Investments in S Ltd.
27 25
- 300 Preference Shares 28 NIL
- 7,500 Equity Shares 85 NIL
- Debentures (Face Value Rs.50,000) 45 NIL
Total 790 377 Total 790 377
Additional Information -
1. Cheque of Rs.2,000 sent by G Ltd., to S Ltd., was in transit.
2. Balance Sheet of S Ltd. was prepared before providing for 6 months dividend on Preference Shares, the first
half being already paid.
3. Both the Companies have proposed Preference Dividend only, but no effect has been given in the
accounts.
4. Stock of G includes Rs.6,000 stock purchased from S on which S made 20% profit on cost. Stock of S includes
Rs.10,000 purchased from G on which G made 10% profit on selling price.
5. Since acquisition, S Ltd. has written off 30% of the book value of plant as on date of acquisition by way of
depreciation.
6. Bills Receivable of S Ltd. are due from G Ltd.
Prepare Consolidated Balance Sheet as at 31st December.
Solution:
Holding Company = G
Subsidiary = S
Acquisition: a few years back
Consolidation: 31sl December
2. Analysis of Reserves Surplus of S Ltd.
(a) General Reserve
Balance on date of consolidation (given) Rs.30,000
As on Date of Acquisition (given) From date of acquisition to date of consolidation
Rs. 25,000 Capital Profit (balancing figure) = Rs.5,000 Revenue Reserve

263
(b) Profit Loss Account
Balance on 31st December Rs. 12,000
Less: Proposed Preference Dividend (Rs.50.000 x 6% x 6 - 12) Rs. 1,500
Corrected Balance Rs. 10,500
As on date of acquisition Rs. 14,000 From date of acquisition to date of
Less: Equity Dividend for pre-acqn period Rs. 10,000 consolidation (balancing figure) =
(Reed, by G 7,500 - 75%) Rs. 4,000 Rs.6,500
Capital Profits Revenue Profits
(c) Gain / Loss on Revaluation of Assets
• Loss on Revaluation of Machinery = 62,000 - 66,000 = (Rs.4,000) Capital Profit
• Depreciation Gain on Revaluation Loss = 4,000 x 30% = Rs.1,200 Revenue Profit
Particulars
Total
100%
G Ltd.
(75%)
Minority Int
(25%)
(b) Preference Share Capital
(c) Capital Profits: General Reserve
Loss on Revaluation of Assets
(d) Revenue Reserves: General Reserve
(e) Revenue Profits: Profit Loss Account
Depreciation Gain on Revaluation
(f) Preference Dividend
1,00,000
50,000
25,000
4,000
(4,000)
75,000
30,000
18,750
3,750
5,775
900
25,000
20,000
6,250
1,250
1,925
600
25,000
5,000
6,500
1,200
7,700
1,500
Minority Interest before Stock Reserve Adjustment
Less: Stock Reserve on Unrealised Profits i.e. Share of Minority
Interest [6,000 x (20 - 120) x 25%]
55,025
250
Note: Unrealized profits on upstream transaction (i.e. Subsidiary to Holding Company) alone is eliminated
from the Minority Interest, towards their share i.e. 25%. The balance of 75% (Holding Company’s Share) will be
reduced from the Reserves of G Ltd. Unrealized profits on downstream transaction, will be eliminated in full
against reserves of G Ltd.
4. Cost of Control
Particulars Rs.
Cost of Investment in S Ltd.
7,500 Equity Shares of S Ltd.
300 6% Preference Shares of S Ltd.
(2) Nominal Value of Preference Share Capital
(3) Share in Capital Profit of S Ltd.
85,000
28,000
1,13,000
(1.23,750)
75,000
30,000
18,750
Capital Reserve on Consolidation (10,750)
5. Gain or Loss on Elimination of Mutually held Debentures
Particulars Rs.
Cost of Investment
Less: Nominal Value of Debentures
45,000
50,000
Gain on Consolidation - Added to Group Profits 5,000

264
Particulars Gen. Res PL A/C
Balance as per Balance Sheet of S Ltd.
Less: Proposed Preference Dividend (Rs. 1,00,000 x 6%)
Add: Share of Proposed Dividend from S Ltd. (Rs.30,000 x 6% x 6/12)
30,000
–
–
40,000
(6,000)
900
Adjusted Balance
Add: Share of Revenue Profits / Reserves of S Ltd.
30,000
3,750
34,900
5,775
Less: Unrealised Profits on Closing Stock of G Ltd. - Upstream transaction -
Rs.6,000 x (20 - 120) x G Ltd.’s Share 75%
Less: Unrealised Profits on Closing Stock of S Ltd. - Downstream transaction
Rs. 10,000 x 10% - Fully adjusted against G Ltd.’s Reserves
Add: Gain on elimination of mutually held Debentures
33,750
–
–
40,675
(750)
(1,000)
5,000
7. Consolidated Balance Sheet of G Ltd. and its Subsidiary S Ltd. as at 31st
December
Share Capital:
Equity Share Capital (Rs.10)
6% Preference Share Capital (Rs.100)
Reserves Surplus
General Reserve
Minority Interest
6% Debentures (1,00,000 - 50,000 held
by G in S)
Current Liabilities
Creditors [90,000 + 60,000]
Bills Payable [20,000 + 25,000 - 10,000
(Mutual Owings)]
Proposed Preference Dividend (G Ltd.)
5,00,000
1,00,000
33,750
43,925
10,750
54,775
50,000
1.50.000
35,000
6,000
Fixed Assets
Goodwill (50,000+ 30,000)
Land Buildings (2,00,000 + 50,000)
Plant Mcy. (105000 + 100000 - 4000
(Revln. Loss) + 1200 (Depn. Gain)l
Current Assets
Stock in Trade [1,30,000 + 1,00,000 -
2,000 (Stock Reserve)]
Trade Debtors [90,000 + 50.000]
Bills Receivable [30,000 + 10,000 - 10,000
(Mutual Owings)]
Cash at Bank [27,000 + 25,000]
Cheque in Transit
80,000
2,50,000
2,02,200
2,28,000
1,40,000
30,000
52,000
2,000
Total 9,84,200 Total 9,84,200
Illustration 18: Asset Revaluation, Pre-acquisition Dividend
On 01.01.2006, H Ltd. acquired 8000 Shares of Rs.10 each of G Ltd. at Rs.90,000. The Balance Sheet of H Ltd., and
G Ltd., as at 31.12.2008 are given below-
Liabilities H Ltd. G Ltd. Assets H Ltd. G Ltd.
Equity Share Capital (Rs.10) 1,00,000 1,00,000 Fixed Assets 60,000 1,10,000
General Reserve 40,000 26,000 Investments 1,00,000 15,000
Profit Loss Account 36,000 35,000 Debtors 25,000 20,000
Creditors 71,000 48,000 Stock 30,000 40,000
Bank 32,000 24,000
Total 2,47,000 2,09,000 Total 2,47,000 2,09,000
1. At the time of acquiring shares, G Ltd. had Rs.24,000 in General Reserve and Rs. 15,000 (Cr.) in P L A/c.
2. G Ltd. paid 10% dividends in 2006, 12% in 2007, 15% in 2008 for 2005, 2006 and 2007 respectively. All
dividends received have been credited to the Profit Loss Account of H Ltd.
3. Proposed dividend for both the Companies for 2008 is 10%.

265
4. One bonus share for five fully paid shares held has been declared by G Ltd. out of pre-acquisition reserve
on 31.12.2008. No effect has been given to that in the above accounts.
5. On 01.01.2006, Building of G Ltd. which stood at Rs.50,000 was revalued at Rs.60,000 but no adjustment has
been made in the books. Depreciation has been charged @ 10% p.a. on reducing balance method.
6. In 2008, H Ltd. purchased from G Ltd., goods for Rs.10,000 on which G Ltd. made a profit of 20% on Sales.
25% of such goods are lying unsold on 31.12.2008.
Prepare the Consolidated Balance Sheet as at 31.12.2008.
Solution:
Holding Company = H Ltd.
Subsidiary = G Ltd.
Note: Number of Shares in G Ltd. after Bonus Issue = 10,000 + l/5in Bonus = 12,000 Shares. Holding by Ganpat
in G Ltd. - Originally Acquired 8,000 Shares + Bonus at 1/5* = 9,600 Shares, out of 12,000 Shares = 80%.
2. Analysis of Reserves and Surplus of G Ltd.
(a) General Reserve
Balance as on date of Consolidation Rs. 26,000
Less: Bonus Issue (l/5th of Rs. 1,00,000) Rs. 20,000
Adjusuted Balance Rs. 6,000
As on date of acquisition 01.01.2006
Less: Bonus Issue
Balance Capital Profit
Rs. 24,000
Rs. 20,000
Rs. 4,000
Transfer between 01.01.2006 and
31.12.2008 (acquisition to consolidation)
(balancing figure) Rs.2,000
Revenue Reserve
Balance as on date of Consolidation Rs. 35,000
Less: Proposed Dividend for 2008 (10% of Rs. 1,00,000) Rs. 10,000
Adjusted Balance Rs. 25,000
Bal.on date of acquisition 1.1.06
Less: Pre-Acqn Dividend 2005 (10%)
Balance Capital Profit
Rs. 15,000
Rs. 10,000
Rs. 5,000
Profits for 2006, 2007 2008
(balancing figure) Rs.20,000
Revenue
(c) Gain / Loss on Revaluation of Building
Gain on Revaluation = Rs. 60,000 - Rs. 50,000 = Rs.10,000 - Capital Profit
Depreciation Loss on Revaluation Gain
For 2006 - Rs.l 0,000 x 10% Rs. 1,000
For 2007 - Rs. 1,000 x 90% Rs. 900
For 2008 - Rs. 900 x 90% Rs. 810 (Rs.2,710) Revenue Profit
Alternatively, Depreciation gain can be derived as under -
Year Depreciation on Rs.50,000
already provided
Depreciation on 60,000
(Required)
Additional
Depreciation
2006
2007
2008
Rs.50,000 x 10% = Rs.5,000
Rs. 5,000 x 90% = Rs.4,500
Rs. 4,500 x 90% = Rs.4,050
Rs.60,000 x 10% = Rs.6,000
Rs. 6,000 x 90% = Rs.5,400
Rs. 5,400 x 90% = Rs.4,860
(1,000)
(900)
(810)
Total Additional Depreciation to be provided (Revenue Profit) (2,710)

266
3. Analysis of Net Worth of G Ltd.
Particulars
Total
100%
H Ltd.
80%
Minority
20%
(a) Equity Share Capital (including Bonus Issue) Rs. 1,00,000 + 20%
(b) Capital Profits: General Reserve
Gain on Revaluation of Assets
(c) Revenue Reserves: General Reserve
(d) Revenue Profits: Profit Loss Account
Depreciation Gain on Revaluation
(e) Proposed Dividend 10% of Rs. 1,00,000
1,20,000
4,000
5,000
10,000
96,000
15,200
1,600
13,832
8,000
24.000
3,800
400
3,458
2,000
19,000
2,000
20,000
(2,710)
17,290
10,000
Minority Interest before Stock Reserve Adjustment
Less: Stock Reserve on Closing Stock (10,000 x 25% x 20%) x 20%
33,658
(100)
Minority Interest taken to B/Sheet 33,558
4. Cost of Control
Particulars Rs.
Cost of Investment in G Ltd.
Less: Dividend out of Pre-acquisition profits (of 2005) of G (Rs.80,000 x 10%)
90,000
8,000
(2) Share in Capital Profit of G Ltd.
96,000
15,200
82,000
1,11,200
Particulars Gen. Res PL A/c
Balance as per Balance Sheet of H Ltd.
Less: Dividend out of Pre-acquisition Profits (Rs.80,000 x 10%)
Less: Dividend Proposed for 2008 by H (Rs. 10% x 1,00,000)
Add: Share of Proposed Dividend of G Ltd. for 2008 (80% x Rs. 10000)
40,000
–
–
–
36,000
(8,000)
(10,000)
8,000
Adjusted Balance
Add: Share of Revenue Profits/Reserves of G Ltd.
40,000
1,600
26,000
13,832
Less: Unrealised Profit on Closing Stock [20% x Rs. 10,000 x 25%] x 80%
41,600
–
39,832
(400)
6. Consolidated Balance Sheet of H Ltd. and its Subsidiary G Ltd. as at 31.12.2008
Share Capital: 1,00,000 Fixed Assets: (60000 + 110000 + 10000 1,77,290
Equity Share Capital (Rs.100 each) (Revaln Gain) - 2710 (Depn. Loss)
Reserves Surplus Investments: [1,00,000 + 15,000 - 25,000
General Reserve 41,600 90,000 (Held by H Ltd. in G Ltd.)]
Profit and Loss Account 39,432 Current Assets
Capital Reserve on Consolidation 29,200 Debtors [25,000 + 20,000] 45,000
Minority Interest 33,558 Stock [30000 + 40000 - 500 (Reserve)] 69,500
Current Liabilities Bank [32,000 + 24,000] 56,000
Sundry Creditors [71,000 + 48,000] 1,19,000
Proposed Dividend: Ganpat Ltd. 10,000
Total 3,72,790 Total 3,72,790

267
D. INVESTMENT IN PREFERENCE CAPITAL
Illustration 19: Bonus Issue, Pre-acquisition Dividend, Preference Dividend
The following are the Balance Sheets of Sky Ltd. and Star Ltd. as on 31.03.2009 -
Liabilities Sky Star Assets Sky Star
Share Capital: Fixed Assets: Goodwill 60,000 40,000
Equity Shares of Rs.10 each 5,00,000 2,00,000 Machinery 1,00,000 60,000
12% Pref. Shares of Rs.100 each 1,00,000 50,000 Vehicles 1,80,000 70,000
Reserves: General Reserve 1,00,000 60,000 Furniture 50,000 30,000
Profit Loss A/c 1,50,000 90,000 Investment: Shares of Sea (Cost) 3,80,000 –
Current Liabilities Provisions: Current Assets: Stock 70,000 1,40,000
Creditors 60,000 70,000 Debtors 1,00,000 1,65,000
Income Tax 70,000 60,000 Bank Balance 40,000 25,000
Total 9,80,000 5,30,000 Total 9,80,000 5,30,000
The following further information is furnished:
1. Sky Ltd. acquired 12,000 Equity Shares and 400 Preference Shares on 01.04.2008 at a cost of Rs.2,80,000 and
Rs.1,00,000 respectively.
2. The Profit Loss Account of Star Ltd. had a credit balance of Rs.30,000 as on 01.04.2008 and that of General
Reserve on that date was Rs.50,000.
3. On 01.07.2008, Star Ltd. declared dividend out of its pre-acquisition profit, 12% on its Share Capital; Sky Ltd.
credited the receipt of dividend to its Profit Loss Account.
4. On 01.10.2008 Star Ltd. issued one Equity Share for every three shares held, as Bonus Shares, at a face value
of Rs.100 per share out of its General Reserve. No entry has been made on the books of Sky Ltd. for the
receipt of these bonus shares.
5. Star Ltd. owed Sky Ltd. Rs.20,000 for purchase of goods from Sky Ltd. The entire stock of goods is held by
Sea Ltd. on 31.03.2009. Ocean Ltd. made a profit of 25% on cost.
Prepare a Consolidated Balance Sheet as at 31.03.2009.
Solution:
Holding Company = Sky Ltd.
Subsidiary = Star Ltd
Shareholding Status: Shares held on 31.03.2009 = 1,200+ 1/3 x 1,200 (Bonus) = 1,600 out of 2,000 = 80%.
Note: Share distribution pattern can be determined as under –
Date Particulars Held by Sky Ltd. % of Holding Total Shares
01.04.2008 Opening Balance 1,200 NIL 1,500
01.10.2008 Bonus Shares (1 /3 x 1,200) 400 80% 500
31.03.2009 Closing Balance 1,600 80%
(1,600/2,000)
2,000 (From Balance
Sheet Given)
2. Analysis of Reserves Surplus of Star Ltd.
(a) General Reserve
Balance on 31.03.2009 Rs.60,000
Balance on 01.04.2008 (acquisition) 50,000 Transfer during 2008-09 60,000
(bal. fig) Revenue Reserve
Less: Bonus Issue (1/3 x 1,500 Shares x Rs. 100) 50,000
Capital Profit Nil

268
Balance on 31.03.2009 Rs.90,000
Balance on 01.04.2008 (acquisition) 30,000 Profit for 2008-09 Rs. 84,000
Less: Dividend on pre-acquisition profit Less: Preference Dividend Rs. 6,000
(12% x 15,000 shares x Rs. 10 each) (18,000) Rs.78,000
Less: Preference dividend (50,000 x 12%) (6,000) Revenue Profit
Balance Capital Profits Rs. 6,000
3. Analysis of Net Worth of Star Ltd.
Particulars Total Sky Ltd Minority
100% 80% 20%
(a) Share Capital:
(d) Revenue Profit:
(e) Preference Dividend
Equity
Preference
General Reserve
of Star Ltd. for the year
2,00,000 1,60,000
40,000
4,800
48,000
62,400
4,800
40,000
10,000
1,200
12,000
15,600
1,200
50,000
Nil
6,000
6,000
60,000
78,000
6,000
4. Cost of Control
Particulars Rs.
Cost of Investment: Equity Shares of Sea Ltd.
Preference Shares of Sea Ltd.
1,00,000
2,80,000
Total Cost of Investment
Less: Dividend out of Pre-acquisition profits
Preference Shares (40,000 Shares x Rs.100 each x 12%)
In Equity Shares (15,000 Shares x Rs.10 each x 12%)
4,800
14,400
3,80,000
(19,200)
Corrected Cost of Investment
Less: (1) Nominal Value of Equity Share Capital
(2) Nominal Value of Preference Share Capital
(3) Share in Capital Profit of Star Ltd.
1,60,000
40,000
4,800
3,60,800
(2,04,800)
Balance as per Balance Sheet of Sky Ltd.
Add: Share of Revenue Profits/ Reserves of Star Ltd.
Add: Share of Preference Dividend from Star Ltd.
Less: Dividend out of Pre-acquisition Profits (Rs.4,800 + Rs. 14,400)
Less: Preference Dividend payable for the current year by Sky Ltd.
Less: Stock Reserve on Closing Stock (20,000 x 25 /125)
1,00,000
48,000
–
–
–
–
1,50,000
62,400
4,800
(19,200)
(12,000)
(4,000)
Adjusted Consolidated Balance 1,48,000 1,82,000

269
6. Consolidated Balance Sheet of Sky Ltd. and its Subsidiary Star Ltd. as at 31.03.2009
Share Capital: Equity Share Capital 5,00,000 Fixed Assets
12% Pref. Share Capital 1,00,000 Goodwill (Purchased as per B/s) 1,00,000
Reserves and Surplus: Goodwill on Consolidation 1,56,000
General Reserve 1,48,000 Machinery (1,00,000 + 60,000) 1,60,000
P L Account 1,82,000 Vehicles (1,80,000+ 70,000) 2,50,000
Minority Interest: 80,000 Furniture (50,000 + 30,000) 80,000
Current Liabilities: Current Assets, Loans Advances
Creditors (60,000 + 70,000 - 20,000) 1,30,000 Stock (70,000 + 1,40,000 - Stock Res 4,000) 2,06,000
Income Tax (70,000 + 60,000) 1,30,000 Debtors (1,00,000 + 1,65,000 - 20,000 mutual) 2,45,000
Preferance Dividend Payable Sky Ltd. 12,000 Bank Balance (40,000 + 25,000) 65,000
Total 12,62,000 Total 12,62,000
Notes:
• StockReservei.e.unrealizedprofitsonClosingStockhavebeeneliminatedinfullagainstHoldingCompany’s
Profits, as it arose from downstream transaction (i.e. Holding to Subsidiary).
• Inter Company Owings have been eliminated in full.
Illustration 20: Bonus Issue Not Recorded / Debenture Interest
The following are the Balance Sheets of K Ltd. and P Ltd. as at 31.12.2005 - (Rs.000’s)
Liabilities K P Assets K P
Authorized Issued Paid-up Capital: Fixed Assets: 1,015 809
Equity Shares of Rs.100 each 800 400 Investments: In P Ltd.
12% Preference Shares of Rs.100 each — 200 3,000 Equity Shares 450
Reserves Surplus: 1,500 Preference Shares 180
General Reserve 360 200 25 10% Debentures
(Face Value)
25
Profit Loss Account 240 140 Current Assets: 260 480
Secured Loans:
10% Debentures of Rs.1,000 each 50
Current Liabilities Provisions:
Proposed Dividends on:
- Equity Shares 120 60
- Preference Shares — 24
Debenture Interest accrued — 5
Trade Creditors 410 210
Total 1,930 1,289 Total 1,930 1,289
1. K Ltd. acquired its interest in P Ltd. on 01.01.2008, when the balance to the General Reserve Account of
P Ltd. was Rs.1,80,000.
2. The balance in the Profit Loss Account of P Ltd. as at 31.12.2008 was arrived at as under –
Rs. Rs.
Balance on 01.01.2008
Add: Current Profits (including Dividends)
40,000
2,04,000
Deduct: Transfer to: General Reserve
Proposed Dividends
20,000
84,000
2,44,000
1,04,000
Balance as on 31.12.2008 1,40,000

270
3. Balance to the P L Account of P Ltd. as on 01.01.2008 was after providing for dividends on Preference
Shares and 10% dividends on Equity Shares for the year ended 31.12.2008, these dividends were paid in
cash by P Ltd. in May 2008.
4. No entries have been made in the books of K Ltd. for debenture interest due or for proposed dividends of P
Ltd. for the year ended 31.12.2008.
5. Mutual indebtedness of Rs.24,000 is reflected in the balances shown in the Balance Sheets.
6. In October 2008, P Ltd. issued fully paid up Bonus Shares in the ratio of one share for every four shares held
by utilizing its General Reserve. This was not recorded in the books of both the Companies.
From the above information, you are required to prepare the Consolidated Balance Sheet of K Ltd., and its
subsidiary P Ltd. as at 31.12.2008.
Solution:
Holding Company = K Ltd.
Subsidiary = P Ltd.
2. Analysis of Reserves and Surplus of P Ltd.
(a) General Reserve
Balance on 31.12.2008 Rs. 2,00,000
Less: Bonus Issue (Rs.4,00,000 x 1 / 4) Rs. 1,00,000
Adjusted Balance Rs. 1,00,000
Balance on 01.01.2008 (acquisition) Rs. 1,80,000 Transfer during 2008 Rs.20,000
Less: Bonus Issue Rs. 1,00,000 (balancing figure) Revenue Profit
Balance Capital Profit Rs. 80,000
Balance on 31.12.2008 Rs. 1,40,000
Balance on 01.01.2008 Rs. 40,000 Profit for 2008 Rs. 1,00,000
Capital Profit (balancing figure) Revenue Profit
3. Analysis of Net Worth of P Ltd.
Particulars
Total K Ltd. Minority
100% 75% 25%
(a) Share Capital:
(c) Revenue Reserves:
(e) Proposed Dividend:
Equity (including Bonus Rs. 1,00,000)
12% Preference Share Capital
General Reserve
General Reserve
P L Account
Equity Dividend
12% Preference Dividend
5,00,000 3,75,000
1,50,000
90,000
15,000
75,000
45,000
18,000
1,25,000
50,000
30,000
5,000
25,000
15,000
6,000
2,00,000
80,000
40,000
1,20,000
20,000
1,00,000
60,000
24,000

271
4. Cost of Control
Particulars Rs.
Cost of Investment: Equity Shares
Preference Shares
4,50,000
1,80,000
Total Cost of Investment 6,30,000
(2) Nominal Value of Preference Capital
(3) Share in Capital Profit of P Ltd.
3,75,000
1,50,000
90,000 6,15,000
Goodwill on Consolidation 15,000
Note: It has been presumed that K Ltd. has correctly recorded the receipt of pre-acquisition dividend to its
investment account. If it is presumed that Pre-acquisition dividend have been wrongly taken to P L Account,
Capital Reserve on Consolidation will be Rs.33,000. Balance in P L will be reduced by Rs.48,000.
Balance as per Balance Sheet of K Ltd.,
Add: Share of Dividends declared for 2007 (75% of Rs.84,000)
Add: Share of Debenture Interest [(25,000/50,000) x Rs.5,000]
3,60,000 2,40,000
63,000
2,500
Adjusted Balance
Add: Share of Revenue Profits / Reserves of Prasad Ltd.
3,60,000
15,000
3,05,500
75,000
6. Consolidated Balance Sheet of K Ltd. and its subsidiary P Ltd. as at 31.12.2008
Share Capital: Equity Share Capital 8,00,000 Fixed Assets: Goodwill on Consolidation 15,000
Reserves and Surplus: Other Fixed Assets
General Reserve 3,75,000 (10,15,000 + 8,09,000) 18,24,000
Profit Loss Account 3,80,500
Secured Loans: 10% Debentures 25,000 Current Assets: [2,60,000 + 4,80,000 7,16,000
[50,000 - 25,000 (Held by K)] 24,000 (Mutual Owings)]
Minority Interest: 2,56,000 .
Creditors [4,10,000 + 2,10,000 - 5,96,000
24,000 (Mutual)]
Proposed Dividends: Equity 1,20,000
Debenture Interest Accrued [Rs.5,000 -
Rs.2,500 (Held by K)]
2,500
Total 25,55,000 Total 25,55,000

272
F. ACQUISITION IN LOTS
Illustration 21: Purchase in Lots - Before Controlling Acqn. - Loss of Stock post-acquisition
The following are the Balance Sheets of L Ltd. and M Ltd. as at 31.03.2009 -
Liabilities L Ltd. M Ltd. Assets L Ltd. M Ltd.
Equity Share Capital (Rs.10)
Profit Loss Account Sundry
Creditors
80,000
22,000
3,000
1,00,000
30,000
8,000
Shares in Monu Ltd
Cash
Other Assets
98,000
7,000
–
–
4,000
1,34,000
Total 1,05,000 1,38,000 Total 1,05,000 1,38,000
1. Net Profit during 2008-09 included above were: L Ltd. Rs.18,000; M Ltd. Rs.12,000.
2. During 2008-09, M Ltd. credited Rs.3,000 to its P L Account in settlement of a claim of loss of stock (costing
Rs.5,400 - included in opening stock) by fire on 30.06.2008.
3. Rs. 250 p.m. expenses incurred by L Ltd. on behalf of M Ltd. has been debited to the Profit Loss Account
of L Ltd. and left unrecorded for in the books of M Ltd.
4. Both the Companies have proposed a dividend of 10% which is yet to be recorded.
5. On 01.04.2008, L Ltd., was formed and on the same day it acquired 4,000 Shares of M Ltd. at Rs.55,000.
6. On 31.07.2008, 10% dividend was received from M Ltd. and also Bonus Share at 1:4 was received. The
dividend was credited to Profit Loss Account.
7. On 31.8.2008, L Ltd. purchased another 3,000 Shares of M Ltd. at Rs.43,000.
Draft a Consolidated Balance Sheet for the above Group.
Solution:
Company Status Date of Acquisition Holding Status
Holding Company = L Ltd.
Subsidiary = M Ltd.
Lot 1 = 4,000 Shares = 01.04.2008
Bonus 1,000 Shares = 31.07.2008
Lot 2 = 3,000 Shares = 31.08.2008
Date of Consolidation = 31.03.2009
Notes:
• As per M’s B/Sheet, number of Shares = 10,000, which is after Bonus Issue of 1:4. Hence, Number of Shares
prior to Bonus Issue = 10,000 Less l/5lh
= 8,000 Shares.
• Lot 14,000 Shares do not constitute controlling acquisition. Hence, Date of Control = 31.08.2008. Shares held
by Lalu Ltd. = 8,000 Shares out of 10,000 = 80% Holding.
2. Analysis of Profit Loss Account of M Ltd.
Note:
1. Normal Operating Profit of M for 2008-09 = 12,000 (given) + 2,400 (abnormal loss item) = Rs. 14,400.
2. Presuming this to be earned uniformly, the Revenue Profits after date of controlling acquisition i.e. the
period from 31.08.2008 to 31.03.2009 (i.e. 7 months) = Rs. 14,400 x 7/12 = Rs.8,400. Hence, amount relatable
to pre-acquisition period = Rs. 14,400 - Rs.8,400 = Rs.6,000.
P L balance on 31.03.2009 Rs. 30,000
Bal.in PL last year Rs. 46,000 Profit from 31.08.2008 to 31.03.2009 8,400
Less: Bonus Issue 20,000 (Rs.80,000 x 1 /4) (See Note 2 above)
Less: Dividend 8,000 (Rs.80,000 x 10%) Less: Expenses by L Ltd. (Rs.250 x 7) (1,750)
Less: Stock Loss 2,400 Less: 2008-09 Dividend (1,00,000x10%) (10,000)
15,600 (30,000- 14,400) (Rs.3,350)
2008-09 Pft (Note 2) 6,000 (Rs.l4,400 x 5/12) Revenue Profit
Less: Exp. by L Ltd. (1,250) (Rs.250 x 5)
20,350 Capital Profit

273
Note:
• The Opening Balance in PL A/c Rs.46,000 is derived by reverse working. From this balance, M Ltd. should
have declared bonus shares, paid dividend and written off the stock losses.
• The net balance of Capital and Revenue Profits = Rs.20,350 - Rs.3,350 = Rs.17,000. This is confirmed with the
corrected balance of M’s PL Account i.e. Balance as given = Rs.30,000 Less Expenses incurred by L Ltd.,
now recorded = Rs.3,000 Less Dividend for 2008-09 = Rs. 10,000; Net Balance = Rs.17,000.
3. Analysis of Net Worth of M Ltd.
Particulars
Total
100%
L Ltd.
(80%)
Minority
20%
(b) Capital Profits: Profit Loss Account
(c) Revenue Profits: Profit Loss Account
(d) Proposed Dividend
1,00,000
20,350
(3,350)
10,000
80,000
16,280
(2,680)
8,000
20,000
4,070
(670)
2,000
4. Computation of Pre-acquisition Dividend of L Ltd.
Particulars Total 1st
Lot 2nd
Lot
% of Holding on 31.03.2009 80% 50% 30%
Share of dividend Rs.8,000 Rs.5,000 Rs.3,000
Period of holding during 2008-09 – 12 Months 7 Months
To be Credited to PL A/c Rs.6,750 Rs.5,000 Rs.1,750
(3,000x7/12)
To be Credited to Investment A/c (Pre-acquisition Dividend) Rs. 1,250 NIL Rs. 1,250
(3,000x5/12)
5. Cost of Control
Particulars Rs.
Cost of Investment in M Ltd.
Less: Dividend out of Pre-acquisition Profits (2007-08) of M Ltd. (Rs.8,000 x 50%)
Less: Dividend out of Pre-acquisition Profits (2008-09) Working Note - 4 above
98,000
(4,000)
(1,250)
Adjusted Cost of Investment 92,750
Share in Capital Profit of M Ltd.
80,000
16,280 96,280
6. Consolidation of Profit and Loss Account
Particulars Rs.
Balance as per Balance Sheet 22,000
Less: Proposed Dividend (Rs.80,000 x 10%) (8,000)
Add: Expenses incurred on behalf of M Ltd. by L Ltd. (Rs.250 x 12 months) 3,000
Less: Dividend out of Pre-acquisition Profits (2007-08) (Rs.8,000 x 50%) (4,000)
Add: Share of Proposed Dividend for FY 2008-09 (WN4) 6,750
Adjusted Balance 19,750
Less: Share of Revenue Loss of M Ltd. (2,680)

274
7. Consolidated Balance Sheet of L Ltd. and its Subsidiary M Ltd. as at 31.03.2009
Reserves Surplus
Minority Interest
Sundry Creditors [3,000 + 8,000]
Proposed Dividend [shareholders of L Ltd.]
80,000
17,070
3,530
25,400
11,000
8,000
Other Assets
Current Assets: Cash [7,000 + 4,000]
1,34,000
11,000
Total 1,45,000 Total 1,45,000
Illustration 35: Purchase in Lots - Before Controlling Acqn. - Ex-Dividend Ex-Bonus
The Balance Sheets of G Ltd. and M Ltd. as on 31.03.2009 are as follows -
Liabilities G M Assets G M
Share Capital (Rs.100 Shares)
Creditors
1,60,000
50,000
2,00,000
60,000
16,000
Investment: Shares in Maurya
Debtors
Stock in Trade
Cash at Bank
Cash in Hand
–
1,96,000
14,000
–
1,20,000
80,000
70,000
6,000
Total 2,10,000 2,76,000 Total 2,10,000 2,76,000
Particulars of Gupta Ltd. -
1. This Company was formed on 1.4.2008.
2. It acquired the shares of M Ltd. as under –
Date of Acquisition No. of Shares Cost Rs.
1.4.2007 800 1,10,000
31.7.2007 600 86,000
3. The shares purchased on 31.07.2008 are ex-dividend and ex-bonus from existing holders.
4. On 31.07.2008 dividend at 10% was received from Maurya and was credited to Profit Loss Account.
5. On 31.07.2008 it received Bonus Shares from Maurya in the ratio of One Share on every Four Shares held.
6. Gupta incurred an expenditure of Rs.500 per month on behalf of Maurya Ltd. and this was debited to the
Profit and Loss Account of Gupta Ltd, but nothing has been done in the books of Maurya Ltd.
7. The balance in Profit Loss A/c as on 31.03.2009 included Rs.36,000 being the net profit made during the year.
8. Dividend proposed for 2008-08 at 10% was not provided for yet.
Particulars of Maurya Ltd. -
1. The balance in the Profit Loss A/c as on 31.03.2009 is after the issue of Bonus Shares made on 31.07.2008.
2. The Net Profit made during the year is Rs.24,000 including Rs.6,000 received from Insurance Company
in settlement of the claim towards loss of stock by fire on 30.06.2008 (Cost Rs.10,800 included in Opening
Stock)
3. Dividend proposed for 2008-09 at 10% was not provided for in the accounts.
Prepare the Consolidated Balance Sheet as at 31.03.2009.
Solution: 1. Basic Information
Company Status Dates of Acquisition Holding Status
Holding Company = Gupta
Subsidiary = Maurya
Lot 1 800 Shares 01.04.2008
Lot 2 600 Shares 31.07.2008
Shareholding Status: 800 (Lot 1 on 01.04.2007) + 600 (Lot 2 on 31.07.2008) + 200 (Bonus Issue l/4th x 800 shares)
= 1,600 Shares out of Total 2,000 Shares = 80%

275
2. Analysis of Profit Loss Account of M Ltd.
Balance on 31.03.2009 Rs.60,000
Balance on 01.04.08 36,000 Profit for 2008-09 (Upto consolidation) 24,000
(60,000 - 24,000) Less: Expenses incurred by G Ltd. (Rs.500 x 12) (6,000)
Less: Dividend adjusted (2,000) Add: Abnormal Item - Loss of Stock Rs. 10,800
(20,000 Less 18,000) Less: Insurance Claim Rs.6,000 4,800
Balance Capital Profit 34,000 Profit for the year before Dividend 22,800
01.04.2008 to 31.07.2008
(upto acquisition)
01.07.2008 to 31.03.2009
(upto consolidation)
Rs.22,800x4/12= 7,600 Rs.22,800 x 8/12 = 15,200
Less: Abnormal Item 4,800 Less: Dividend 10% x 2,00,000 6,800
Profit after stock loss 2,800 restricted to profits available
Less: Balance Dvd Rs.4,800 Revenue Profit NIL
(20,000 - 15,200) adj. (2,800)
to the extent of Profit
Balance Capital Profit NIL
3. Analysis of Net Worth of M Ltd.
Particulars
Total
100%
G Ltd.
80%
Minority
20%
(b) Capital Profits: Profit Loss Account
(c) Revenue Profits: Profit Loss Account
(d) Proposed Dividend
2,00,000
34,000
NIL
20,000
1,60,000
27,200
–
16,000
40,000
6,800
–
4,000
4. Cost of Control
Particulars Rs.
Cost of Investment in M Ltd.
Less: Dividend out of Pre-acquisition profits (2007-08) (800 Shares x Rs. 10 x 10%)
FY 2007-08 Rs.2,000 x 80% x 1,000 Shares * 1,600 Shares
1,96,000
(8,000)
(1,000)
(2) Share in Capital Profit of M Ltd.
1,87,000
(1,60,000)
(27,200)
Capital Reserve on Consolidation (200)
Note: Out of the Dividend for the year declared, Rs.2,000 is from Profits prior to the date of acquisition. Holding Company’s
share of pre-acquisition dividend Rs.800 (Rs.2,000 x 80% x 800 Shares ÷ 1,600 Shares) (to the extent of 1,000 Shares
including bonus of 200 Shares only) should be adjusted against Investment Account. The balance dividend should be
credited to Profit and Loss Account only because –
• For the first lot of 800 Shares, dividends for the preceding year 2007-08 alone should be reduced from
Investment Account.
• Second Lot of 600 Shares were purchased ex-dividend and ex-bonus and therefore the entire dividend
received on them should be credited to Profit and Loss Account.

276
5. Consolidation of Profit and Loss Account
Particulars Rs.
Balance as per Balance Sheet of G Ltd.
Less: Proposed Dividend (Rs. 1,60,000 x 10%)
Add: Expenses incurred by M Ltd., (Rs.500 x 12)
Less: Dividend out of Pre-acquisition Profits (FY 2007-08 8,000 + FY 04-05 1,000)
Add: Share of Proposed Dividend for FY 2007-08 (1,600 Shares x Rs. 10 x 10%)
50,000
(16,000)
6,000
(9,000)
16,000
Adjusted Balance as at 31.3.2008
Add: Share of Revenue Profits of M Ltd.,
47,000
–
6. Consolidated Balance Sheet of G Ltd. and its Subsidiary M Ltd. as at 31.03.2009
Profit Loss A/c
Minority Interest:
Current Liabilities: Trade Creditors
Proposed Dvnd.
1,60,000
47,000
200
50,800
16,000
16,000
Fixed Assets
Current Assets
Trade Debtors
Stock in Trade
Cash at Bank
Cash in Hand (14,000 + 6,000)
NIL
1,20,000
80,000
70,000
20,000
Total 2,90,000 Total 2,90,000
Illustration 22: Purchase in Lots – Treatment of Pre-acquisition Dividend
Following are the Balance Sheets of M Ltd. and N Ltd. as at 31.03.2009 -
Liabilities M Ltd. N Ltd. Assets M Ltd. N Ltd.
Equity Share Capital of Rs.100 6,00,000 1,00,000 Land Building 2,00,000 1,00,000
each fully paid Machinery 2,80,000 50,000
General Reserve 50,000 30,000 7000 Shares in N 1,00,000 –
Profit Loss Account 80,000 40,000 Stock in Trade 70,000 40,000
Sundry Creditors 1,00,000 40,000 Debtors 1,50,000 20,000
Bills Payable 10,000 15,000 Bills Receivable 10,000 –
Cash at Bank 30,000 15,000
Total 8,40,000 2,25,000 Total 8,40,000 2,25,000
Prepare Consolidated Balance Sheet as at 31st
March, 2009 from the following additional Information -
1. All the Bills Receivable of M Ltd. including those discounted were accepted by N Ltd.
2. When M Ltd. had acquired 600 Shares in N Ltd., the latter had Rs.20,000 in General Reserve and Rs.5,000
Credit Balance in Profit and Loss Account.
3. At the time of acquisition of further 100 Shares by N Ltd., the latter had Rs. 25,000 General Reserve and
Rs. 28,000 Credit Balance in Profit and Loss Account, from which 20% dividend was paid by N Ltd.
4. The dividends received by M Ltd. on these shares were credited to Profit Loss Account.
5. Stock of N Ltd. includes goods valued at Rs.20,000 purchased from M Ltd. which has made 25% profit on
cost.
6. For the financial year ending 31.03.2009, M Ltd. had proposed a dividend of 10% and N Ltd. has proposed
a dividend of 15%, but no effect has yet been given in the above Balance Sheets.

277
Solution:
Holding Company = M Ltd.
Subsidiary = N Ltd.
Lot 1 = 600 Shares = DOA - 1
Lot 2 = 100 Shares = DOA - 2
2. Analysis of Reserves Surplus of Kaurava Ltd.
(a) General Reserve as per B/s = Rs.30,000
As on DOA-1
(Lot 1 date)
Rs.20,000
Capital
For the period DOA-1 to DOA-2 (Lot 2 date)
Rs.25,000 - Rs.20,000 = Rs.5,000
For 600 Shares (Lot 1): Revenue
For 100 Shares (Lot 2): Capital
From DOA-2 to B/s Date
(upto Consolidation)
Rs.5,0000) (bal. figure)
Revenue
Total Capital Profits = Rs.20,000; Total Revenue Reserves = Rs. 10,000 (See Note)
Note: Addition to Reserves of Rs.5,000 between DOA-1 and DOA-2 have been considered as Revenue Reserves in full, only
for the purpose of determining the share of Minority Interest. After allocating for Minority Interest, the revenue portion of
Rs.500 (i.e. 10% Shares x Rs.5,000) will be added to Capital Profits.
P L A/c Balance as per B/s = Rs. 40,000
Less: Proposed Dividend = 1,00,000 x 15% = Rs. 15,000
Adjusted Balance of N Ltd.’s Profits = Rs. 25,000
As on DOA-1
(Lot 1 date)
Rs.5,000
Capital
For the period DOA-1 to DOA-2 (Lot 2 date)
Rs.28,000 - Rs.5,000 = Rs.23,000
Less: Dividend out of this = Rs.20,000
Net Balance = Rs. 3,000
For 600 Shares (Lot 1): Revenue
For 100 Shares (Lot 2): Capital
From DOA-2 to B/s Date
(upto Consolidation)
Rs.17,000 (bal. figure)
Revenue
Total Capital Profits = Rs.5,000; Total Revenue Reserves = Rs.5,000 (See Note)
Note: Addition to PL A/c Rs.3,000 between DOA-1 and DOA-2 have been fully considered as Revenue only for the
purpose of determining the share of Minority Interest. After allocating for minority Interest, the revenue portion of Rs.300
(i.e. 10% Shares x Rs.3,000) will be added to Capital Profits.
3. Analysis of Net Worth of N Ltd.
Particulars Total M Ltd. Minority
% of share Holding on Consolidation Date 100% 70% 30%
(b) Capital Profits: General Reserve
Add: Capital Items [Res Rs.5000 + PL A/c Rs.3,000] x 10%
Net Share in Capital Profit
(c) Revenue Reserves: General Reserve
Less: Capital Item included in Revenue [Rs.5,000 x 10%]
Net Share in Revenue Reserves
(d) Revenue Profits: Profit Loss A/c
Less: Capital Item included in Revenue [Rs.3,000 x 10%]
Net Share in Revenue Profit
(e) Proposed Dividend
1,00,000
20,000
5,000
70,000
17,500
800
30,000
7,500
3,000
6,000
4.500
25,000
10,000
18,300
7,000
(500)
20,000 6,500
14,000
(300)
15,000 13,700
10,500
Total Minority Interest 51,000

278
4. Cost of Control
Particulars Rs.
Cost of Investment in Equity Shares of N Ltd.
Less: Dividend out of Pre-acquisition profits of N Ltd. (Only for Lot
2 - 1000 Shares) - (Rs. 10,000 x 20%)
1,00,000
2,000
(2) Share in Capital Profit of N Ltd.
70,000
18,300
98,000
88,300
Balance as per Balance Sheet of M Ltd.
Less: Dividend out of Pre-acquisition Profits (Rs.20,000 x 10%)
Less: Proposed Dividend (Rs.6,00,000 x 10%)
Add: Share of Dividend from N Ltd. (Rs. 15,000 x 70%)
50,000
–
–
–
80,000
(2,000)
(60,000)
10,500
Adjusted Balance
Add: Share of Revenue Profits/Reserves of N Ltd.
50,000
6,500
28,500
13,700
Less: Unrealised Profits on Closing Stock Rs.20,000 x 25 / 125
56,500
–
42,200
(4,000)
6. Consolidated Balance Sheet of M Ltd. and its Subsidiary N Ltd. as at 31.03.2009
Reserves Surplus
General Reserve
Minority Interest
Current Liabilities
B/P [ 10,000 + 15,000 - 10,000 (Mutual)]
Trade Creditors [1,00,000 + 40,000]
Proposed Dividend (M Ltd.)
6,00,000
56,500
38,200
51,000
15,000
1,40,000
60,000
Fixed Assets
Goodwill on Consolidation
Land Building (2,00,000 + 1,00,000)
Plant Machinery (2,80,000 + 50,000)
Current Assets
Stock in Trade [70,000 + 40,000 - 4,000
(Stock Reserve)]
Trade Debtors [1,50,000 + 20,000]
B/R [10,000 - 10,000 (Mutual Owings)]
Cash at Bank [30,000 + 15,000]
9,700
3,00,000
3,30,000
1,06,000
1,70,000
NIL
45,000
Total 9,60,700 Total 9,60,700
Notes:
• Balance Sheet items have been consolidated on line-by-line addition basis.
• Stock Reserve i.e. unrealized profits on Closing Stock have been eliminated in full from Group reserves as it relates to
downstream transaction (i.e. Holding to Subsidiary).
• Inter-Company Owings have been eliminated in full.
Illustration 23: Purchase in Multiple Lots - Asset sold by Holding Co. to Subsidiary Co.
Z Ltd. acquired 60% of shares of P Ltd. as on 30th
June, 2005. As on 31st
December, 2007, Balance Sheet of P
Ltd. shows a balance in General Reserves Rs.2,00,000 and in Profit and Loss Account Rs.20,000. Subsequently
Hema Ltd. purchased another 10% shares of P Ltd. on 30th
September, 2008. Finally Z Ltd. purchased
another 20% Shares as on 30th
November, 2008. Given below the Balance Sheets of Z Ltd. and P Ltd. as on
31st
December, 2008 -

279
Liabilities Z Ltd. P Ltd. Assets Z Ltd. P Ltd.
Share Capital 10,00,000 6,00,000 Fixed Assets 16,00,000 10,00,000
General Reserve
P L Account
4,00,000
2,00,000
1,00,000
1,00,000
(-) Accumulated Depreciation
Net Block
4,00,000 2,00,000
12,00,000 8,00,000
Loans 3,00,000 4,00,000 Investments 6,00,000 2,00,000
Sundry Creditors 4,00,000 2,00,000 Current Assets
Provision for Tax 1,00,000 80,000 Stock 4,00,000 3,00,000
Proposed Dividend 2,00,000 1,20,000 Debtors 3,00,000 2,00,000
Cash Bank 1,00,000 1,00,000
Total 26,00,000 16,00,000 Total 26,00,000 16,00,000
Other Information’s:
1. The initial of investment in P Ltd. was made by Z Ltd. for Rs.3,00,000. The second phase of Investment was
made by Z Ltd. for Rs. 80,000 and the last phase of investment was made for Rs.1,50,000.
2. P Ltd. declared and paid Bonus Shares at one for every two Shares held. For this purpose the book closure
date was 15th
July to 31st
July, 2008.
3. Z Ltd. sold a machinery costing Rs.4,00,000 to P Ltd. on 15th
September, 2008 on which the former made a
profit of Rs.1,00,000. P Ltd. charged depreciation at 20% on the plant on time proportion basis.
Prepare a Consolidated Balance Sheet for Z Ltd. and its subsidiary P Ltd. as on 31.12.2008.
Solution:
Holding Company = Z Ltd.
Subsidiary = P Ltd.
Lot 1 = 60% Shares = 30.06.2008
Lot 2 = 10% Shares = 30.09.2008
Lot 3 = 20% Shares = 30.11.2008
2. Analysis of Reserves Surplus of P Ltd.
(a) General Reserve
Balance on 31.12.2008 Rs. 1,00,000
Balance on 1.1.2008 2,00,000 Transfer during 2008 Rs. 1,00,000
Less: Bonus Issue 2,00,000 (balancing figure)
Capital Profit Nil
Capital Profit for
Revenue Reserve for
Total Holdings by Z Ltd.
Upto 30.6.08
6 Months
100000 x 6/12
=
Rs.50,000
90%
1.7.08 to 30.9.08
3 Months
100000 x 3/12 =
Rs. 25,000
30%
60%
90%
l.l0.05 to 30.11.08
2 Months
100000 x 2/12 =
Rs.16,667
20%
70%
90%
1.12.08 to 31.12.08
1 Month
00000 x 1/12 =
Rs. 8,333
–
90%
90%
Total Capital Profits: Rs. 50,000; Total Revenue Profits: Rs. 50,000
Note: Additions to General Reserve Account are fully considered as revenue only for the purpose of determining Minority
Interest. After allocating the Minority Interest the respective Capital Portion will be transferred to Capital Profits.

280
Balance on 31.12.2008 Rs. 1,00,000
Balance on 1.1.2008 20,000 Profit earned during 2008 (b/f) Rs.80,000
Capital Profit Add: Depreciation on Machinery Rs.29,167
(Rs.5 Lakhs x 3.5 Months / 12 x 20%) Rs.1,09,167
Upto 30.6.08 1 1.7.08 to 30.9.08 1.10.08 to 30.11.08 1.12.08 to 31.12.08
6 Months 3 Months 2 Months 1 Month
109167 x 6/12 = 109167 x 3/12 = 109167 x 2/12 = 109167 x 1/12 =
Rs.54,584 Rs.27,292 Rs.18,195 Rs.9,096
Less: Depreciation – Rs.4,167 Rs. 16,667 Rs.8,333
– (29167 x 0.5/3.5) (29167 x 2.0/3.5) (29167 x 1.0/3.5)
Rs. 54,584 Rs.23,125 Rs.1,528 Rs.763
Capital Profit for 90% 30% 20% –
Revenue Profit for – 60% 70% 90%
Total Holdings by Z Ltd. 90% 90% 90%
Total Capital Profits: Rs. 54,584 + Rs.20,000 = Rs.74,584; Total Revenue Profits: Rs. 25,416
Note:
• Profits are assumed to have been evenly spread out throughout the year.
• Additions to the PL A/c after 30.06.2008 are fully considered as revenue only for the purpose of determining Minority
Interest. After allocating the Minority Interest the respective Capital Portion will be transferred to Capital Profits.
3. Computation of amount to be transferred from Revenue Profits to Capital Profits
Period
% of holding
considered as Capital
PL A/c General Reserve
30.6.2008-30.9.2008
30.9.2008-30.11.2008
30%
20%
23,125 x 30% = Rs.6,938
1,528 x 20% = Rs. 306
25,000 x 30% = Rs. 7,500
16,667 x 20% = Rs. 3,333
Rs.7,244 Rs. 10,833
Particulars
Total Z Ltd. Minority
100% 90% 10%
Add:
Less:
Less:
General Reserve
Capital Items (7,244 + 10,833)
General Reserve
Capital Item included in Revenue
Capital Item included in Revenue
6,00,000
50,000
74,584
5,40,000
1,12,126
18,077
60,000
12,458
5,000
2,542
12,000
1,24,584
50,000
1,30,203
45,000
(10,833)
25,416
34,167
22,874
(7,244)
1,20,000
15,630
1,08,000

281
5. Cost of Control
Particulars Rs.
Cost of Investment in Equity Shares of P Ltd.
Less: Pre-acquisition Dividend
5,30,000
(65,000)
(2) Share in Capital Profit of P Ltd.
5,40,000
1,30,203
4,65,000
6,70,203
6. Computation of Pre-acquisition Dividend
Particulars Pre-Acquisition Dividend Post Acquisition Dividend
Lot 1 - 60% - Acqd. on 30.6.2008
Lot 2 - 80% - 01.07.08 to 30.09.08
Lot 3 - 90% - 30.09.08 to 30.11.08
1,20,000 x 6/12 x 60% = Rs.36,000
1,20,000 x 3/12 x 80% = Rs.24,000
1,20,000 x 2/12 x 90% = Rs. 18,000
1,20,000 x 6/12 x 60% = Rs.36,000
1,20,000 x 3/12 x 20% = Rs. 6,000
1,20,000 x 1/12 x 10% = Rs. 1,000
Total Rs.65,000 Rs.43,000
Particulars PL A/c Gen. Res.
Balance as per Balance Sheet of Z Ltd.
Add: Proposed Dividend from P Ltd.
Add: Share of Revenue Profits / Reserves of P Ltd.
Less: Unrealized Profit on Machinery sold
Profit on Sale of Machinery
Less: Depreciation on Profit (1,00,000 x 20% x 3.5/12)
1,00,000
(5,833)
2,00,000
43,000
15,630
(94,167)
4,00,000
–
34,167
–
8. Consolidated Balance Sheet of Z Ltd. and its subsidiary P Ltd. as at 31.12.2008
Reserves and Surplus.
– General Reserve
– Profit Loss Account
– Capital Reserve on Consolidation
Minority Interest:
Loan Funds : (3,00,000 + 4,00,000)
Sundry Creditors (4,00,000 + 2,00,000)
Provision for Tax (1,00,000 + 80,000)
Proposed Dividend (Hema Ltd.)
10,00,000
4,34,167
1,64,463
2,05,203
92,000
7,00,000
6,00,000
1,80,000
2,00.000
Fixed Assets: (12,00,000 + 8,00,000 -
Unrealised Profits 94,167)
Investments
(6,00,000 - 5,30,000 - 2,00,000)
Current Assets
Sundry Debtors (3,00,000 + 2,00,000)
Stock in Trade (4,00,000 + 3,00,000)
Cash at Bank (1,00,000 + 1,00,000)
19,05,833
2,70,000
5,00,000
7,00,000
2,00,000
Total 35,75,833 Total 35,75,833
Note: Unrealised Profit on Sale of Machinery has been eliminated fully from Group Reserves as it relates to Downstream
Activity (i.e. Holding to Subsidiary).

282
G. CHAIN HOLDINIG
Illustration 24 : Chain Holding - Multiple Subsidiaries - 100% Subsidiary
P Ltd. purchases its raw materials from H Ltd. and sells goods to Q Ltd. In order to ensure regular supply of
raw materials and patronage for finished goods, P Ltd. through its wholly owned subsidiary, G Ltd. acquires on
31.03.2009, 51% of Equity Capital of H Ltd. for Rs.15 Crores and 76% of Equity Capital of Q Ltd. for Rs.30 Crores.
G Ltd. was floated by P Ltd. in 2000 from which date it was wholly owned by P Ltd.
The following are the Balance Sheets of the four companies as at 31.3.2009 (Rs.Crores) -
Particulars P Ltd. G Ltd. H Ltd. Q Ltd.
SOURCES OF FUNDS
1. Shareholders Funds: Equity (Fully paid) Rs.10 each
Reserves and Surplus
25
75
5
20
10
15
15
20
100 25 25 35
2. Loan Funds: Secured Loans
Unsecured Loans
15
10
–
50
5
10
20
15
25 50 15 35
Total Sources of Funds 125 75 40 70
APPLICATION OF FUNDS:
1. Fixed Assets: Cost
Less: Depreciation
2. Investments at Cost in Fully paid Equity Shares of:
Giri Ltd.
Hari Ltd.
Pari Ltd.
Other Companies (Market Value Rs.116 Crores)
3. Net Current Assets: Current,Assets
Less: Current Liabilities
60
35
–
–
15
7
30
17
25 – 8 13
5
–
–
–
–
15
30
29
–
–
–
–
–
–
–
–
5 74 – –
105
10
1 96
64
200
143
95 1 32 57
Total Application of Funds 125 75 40 70
There are no inter-company transactions outstanding between the Companies. Prepare Consolidated Balance
Sheet as at 31.03.2009.
Solution:
1. Basic Information (for Consolidation on 31.03.2005)
Holding Company = P
Subsidiary = G
Sub-Subsidiary 1 = H
Sub-Subsidiary 2 = Q
Acquisition:
P in G 2001
G in H: 31.03.2009
G in Q: 31.03.2009
a. G Ltd.
b. H Ltd.
c. Q Ltd.
Holding
(P)100%
(G) 51%
(G) 76%
Minority
Nil
49%
24%
2. Analysis of Reserves and Surplus of Subsidiary Companies
Giri Ltd. is wholly owned subsidiary from the beginning and therefore the entire amount of Reserves represents
Revenue Portion. H Ltd. and Q Ltd. were acquired only on 31.03.2009 which is also the date of consolidation and
hence, entire balance in Reserves and Surplus represents Capital Profits.

283
3. Analysis of Net Worth of Subsidiaries (Rs. Crores)
Particulars P Ltd. Minority Interest
100%
G Ltd. H Ltd. Q Ltd.
H Ltd.
49%
Q Ltd.
24%
(a) Share Capital
Less: Minority Interest
Holding Co’s Share
5.00
NIL
10.00
4.90
15.00
3.60 4.90 3.60
5.00 5.10 11.40
(b) Capital Profits Reserves Surplus
Tfr of G Share in H Q
–
7.65
15.20
15.00
(7.65)
[15 x 51%]
20.00
(15.20)
[20 x 76%]
7.35 4.80
22.85
–
7.35
(7.35)
[15 x 49%]
4.80
4.80 [20 x
24%]
22.85 NIL NIL
c) Revenue Profits: Reserves Surplus 20.00 NIL NIL NIL NIL
Minority Interest 12.25 8.40
4. Cost of Control
Particulars Rs. Crores
Cost of Investment: P Ltd. in G Ltd.
G Ltd. in H Ltd.
G Ltd. in Q Ltd
5.00
15.00
30.00
Less: (a) Nominal Value of Share Capital in: - G Ltd.
- H Ltd.
- Q Ltd.
(b) Share in Capital Profits of G Ltd.
5.00
5.10
11.40
50.00
(21.50)
(22.85)
Goodwill on Consolidation 5.65
5. Consolidated Balance Sheet of P Ltd. and its subsidiaries G, H and Q, as at 31.03.2009
Liabilities Rs.Crores Assets Rs.Crores
Share Capital: Equity Capital
(75.00 + 20.00 Share in Revenue of
G Ltd.)
Minority Interest: (a) H Ltd.
(b) Q Ltd.
Secured Loans (15 + 5 + 20)
Unsecured Loans (10 + 50 + 10 + 15)
Current Liabilities: (10 + 64 + 143)
25.00
95.00
12.25
8.40
40.00
85.00
217.00
Fixed Assets: Goodwill on Consolidation
Other Fixed Assets Cost (60 + 15 + 30) 105
Less: Depreciation (35 + 7 + 17) 59
Investments:OtherCo’s[MVRs.l16Crores]
Current Assets, Loans Advances:
(105 + 1 +96 + 200)
5.65
46.00
29.00
402.00
Total 482.65 Total 482.65
76%

284
Illustration 25: Chain Holding - Direct Indirect Method — Abnormal Loss, Dividend
You are given the following Balance Sheets as on 31.12.2008 (Rs.000s)
Liabilities A Ltd. B Ltd. C Ltd. Assets A Ltd. B Ltd. C Ltd.
Share Capital (Rs.100)
General Reserve
Securities Premium
Profit Loss A/c
Creditors
A Ltd. Balance
2,000
600
200
250
300
1,000
300
50
180
200
50
800
200
NIL
120
140
30
Fixed Assets
Current Assets
Investments
B Ltd. Balance
C Ltd. Balance
1,500
450
1,300
70
30
NIL
900
300
580
NIL
NIL
NIL
970
300
NIL
NIL
NIL
20
Total 3,350 1,780 1,290 Total 3,350 1,780 1,290
A Ltd. had acquired 8000 Shares in B Ltd. at a total cost of Rs.11,00,000 on 01.07.2007. On 01.01.2008, A Ltd.
purchased respectively 1,000 and 5,000 Shares in C Ltd. at Rs.116 per Share.
Particulars about General Reserve and the Profit Loss Account are as given below (Rs.000’s)
Particulars A Ltd. BLtd. CLtd.
General Reserve: As on 1.1.2007 550 250 200
Profit Loss A/c: As on 1.1.2007 50 40 20
Profit for 2007 170 100 100
Dividend paid in August 2008 in respect of 2007 10% 12% 10%
A Ltd. and B Ltd. have credited the dividends received by them to their Profit Loss Accounts. Increase in
Reserves were made in 2008. On 31.12.2008, C Ltd. sold goods costing Rs.20,000 to B Ltd. for Rs.25,000, these were
immediately sold for Rs.28,000 to A Ltd. Prepare the Consolidated Balance Sheet of the Group as at 31.12.2008.
Solution: 1. Basic Information
Holding Company = A Ltd.
Subsidiary = B Ltd.
Sub-Subsidiary = C Ltd.
Acquisition:
A in B: 01.07.2007
A in C: 01.01.2008
B in C: 01.01.2008
Consolidation 31.12.2008
a. Holding Co.
b. Minority Int.
B Ltd.
(A Ltd.) 80%
–
20%
C Ltd.
(A) 12.5%
(B) 62.5%
25%
Note: The Shareholding Pattern is analysed as under–
Co. Held by A Ltd Held by B Ltd Total Holdings Minority Int. Total Shares
B Ltd.
8,000 (80%) acquired
on 01.07.2007
N.A. 8,000 (80%) 2,000 (20%)
10,000
(100%)
C.Ltd.
1,000 (12.5%) acquired
on 01.01.2008
5,000 (62.5%) acquired
on 01.01.2005
6,000 (75%) 2,000 (25%)
8,000
(100%)
(a) General Reserve
B Ltd. C Ltd.
31.12.2008 3,00,000 31.12.2008 2,00,000
1 1 01.01.2007
Rs.2,50,000
Capital
Tfr in 2007
NIL
Capital
1 Tfr in 2008
Rs.50,000
Revenue
01.01.2007
Rs.2,00,000
Capital
Tfr in 2007
NIL
Capital
Tfr in 2008
NIL
Revenue
(b) Profit Loss Account C Ltd.
Balance as given on 31.12.2008 Rs. 1,20,000
1.1.2007
Rs.20,000
Capital
Profit for 2007
Rs. 1,00,000
Capital
Dividend for 2007
Rs.8 Lacs x 10% = (Rs.80,000)
Capital
Profit for 2008
(b/f) Rs.80,000
Revenue
Total Capital Profit: 20,000 + 1,00,000 - 80,000 = Rs.40,000; Total Revenue Profit: Rs.80,000

285
B Ltd.
Balance as given on 31.12.2008 1,80,000
Less: Pre-Acquisition Dividend from C Ltd. (80,000 x 5 / 8) 50,000
01.01.2007
Rs.40,000
Capital
Profit for 2007
Rs. 1,00,000
Dividend for 2007
Rs.10 Lacs x 12% = (Rs. 1,20,000)
Profit for 2008
Rs.1,10,000
Revenue (bal. figure)
1.1.2007 to
1.7.2007
Rs.50,000
Capital
1.7.2007 to
31.12.2007
Rs.50,000
Capital
From Opg
Bal.
(bal. figure)
(Rs.20,000)
Capital
From Profit
for 1.1.07 to
1.7.07
(Rs.50,000)
Capital
From Profit
1.1.07 to
31.12.07
(Rs.50,000)
Revenue
Total Capital Profit: 40,000 + 50,000 - 20,000 - 50,000 = Rs.20,000;
Total Revenue Profit: 1,10,000 + 50,000 - 50,000 = Rs.1,10,000
Note: • It has been assumed that the Profits arose evenly throughout the year.
• Dividend declared for 2007 = Rs. 1,20,000, but profit for 2007 is Rs. 1,00,000. So it is presumed that Rs.20,000
declared from opening reserve.
(c) Securities Premium: B Ltd. = Rs. 50,000 – Capital Profit
(d) Preliminary Expenses: C Ltd. = (Rs.20,000) – Capital Profit
3. Analysis of Net Worth of Subsidiary Companies
Particulars
Indirect Method Direct Method
A Ltd.
80% 12.5%
B Ltd. 62.5% C Ltd.
Minority Interest A Ltd.
80% 12.5%
B Ltd. 62.5% C Ltd
Minority Interest
B Ltd. CLtd Bharat India
20% 25% 20% 25%
(a) Share Capital
10,00,000
(2,00,000)
8,00,000
(2,00,000)
2,00,000 2,00,000 10,00,000
(2,00,000)
8,00,000
(2,00,000)
2,00,000 2,00,000
8,00,000 6,00,000 8,00,000 6,00,000
Securities Premium
General Reserve
Transfer of B’s Share in
C (62.50% x Rs. 2,20,000)
50,000
2,50,000
20,000
–
2,00,000
40,000
(20,000)
91,500 55,000
50,000
2,50,000
20,000
2,00,000
40,000
(20,000)
64.000 55,000
3,20,000
1,37,500
2,20,000
(1,37,500)
3,20,000 2,20,000
NOT
APPLICABLE
4,57,500
91,500)
82,500
(55,000)
3,20,000
(64,000)
2,20,000
(55,000)
3,66,000 27,500 2,56,000 1,65,000
(c) Revenue Reserve
50,000
10,000
NIL
NIL 10,000
32,000
NIL
20,000
50,000
10,000
NIL
NIL 10,000
32,000
NIL
20,000
40,000 NIL 40,000 NIL
(d) Revenue Profit
Transfer of B’s Share in
C (62.50% x Rs. 80,000)
1,10,000
50,000
80,000
(50,000)
1,10,000
50,000
80,000
(50,000)
1,60,000
(32,000)
30,000
(20,000)
1,60,000
(32,000)
30,000
(20,000)
1,28,000 10,000 1,28,000 10,000
Minority Interest Before Adjustment
Less: Stock Reserve (28,000 - 20,000) * 20%
3,33,500
1,600
2,75,000
–
3,06,000
1,600
2,75,000
–
Minority Interest after Stock Reserve 3,31,900 2,75,000 3,04,400 2,75,000
Note: In B Ltd. as the entire stock was immediately sold, no Stock Reserve arises.
25%
25%
20%
20%
20%
25%
25%

286
4. Cost of Control
Particulars Indirect Method Direct Method
Cost of Investment: A Ltd. in B Ltd.
A Ltd. in C Ltd.
B Ltd. in C Ltd.
11,00,000
1,16,000
5,80,000
11,00,000
1,16,000
5.80.000
Less: Pre acquisition Dividend
From B to A [20,000 + 50,000) x 80%]
From C to A [80,000 x 12.5%]
From C to B [80,000 x 62.5%]
56,000
10,000
50,000
17,96,000
(1,16,000)
56,000
10,000
50,000
17,96,000
(1,16,000)
Less: (a) Nominal Value of Capital: B Ltd.
C Ltd.
(b) Share in Capital Profit of: B Ltd.
C Ltd.
8,00,000
6,00,000
16,80,000
(14,00,000)
(3,93,500)
8,00,000
6,00,000
16,80,000
(14,00,000)
(4,21,000)
3,66,000
27,500
2,56,000
1,65,000
Capital Reserve on Consolidation (1,13,500) (1,41,000)
Particulars
Balance as per Balance Sheet of A Ltd.
Less: Pre Acquisition Dividend
From B to A [20,000 + 50,000) x 80%]
From C to A [80,000 x 12.5%]
6,00,000
–
–
2,50,000
(56,000)
(10,000)
6,00,000
–
–
2,50,000
(56,000)
(10,000)
Adjusted Balance
Add: Share of Revenue Reserves/Profits from: B Ltd.
C Ltd.
6,00,000
40,000
NIL
1,84,000
1,28,000
10,000
6,00,000
40,000
NIL
1,84,000
1,28,000
10,000
Less: Stock Reserve (28000 - 25000) + (25000 - 20000) x 80%
6,40,000 3,22,000
(6,400)
6,40,000 3,22,000
(6,400)
Adjusted Consolidated Balance 6,40,000 3,15,600 6,40,000 3,15,600
6. Consolidated Balance Sheet of A Ltd. anc its Subsidiaries B Ltd. and C Ltd. as at 31.12.2008
Liabilities Indirect Direct Assets Indirect Direct
Equity Share Capital 20,00,000 20,00,000 Fixed Assets 33,70,000 33,70,000
Reserves Surplus (1500 + 900 + 970)
Securities Premium 2,00,000 2,00,000
General Reserve 6,40,000 6,40,000 Invts: (1300000 + 580000 84,000 84,000
Profit Loss Account 3,15,600 3,15,600 -1796000 Inter Co)
C/R on Consolidation 1,13,500 1,41,000 Current Assets (450000 +
Minority Interest 300000 + 300000 - 8000 10,62,000 10,62,000
(a) B Ltd. 3,31,900 3,04,400 (Stock Res.) + 20000
(b) C Ltd. 2,75,000 2,75,000 (Chq in Transit)
(300 + 200 + 140) 6,40,000 6,40,000
Total 45,16,000 45,16,000 Total 45,16,000 45,16,000
Notes:
• Stock Reserve i.e. unrealized profits on Closing Stock have been eliminated to the extent of Holding Company’s Share
in P L and balance in Minority Interest.

287
Illustration 26: Chain Holding - Direct Indirect Method
Balance Sheets of 3 Companies A Ltd., B Ltd., and C Ltd. as at 31.12.2008 is given below -
Share Capital 2,50,000 2,00,000 1,20,000 Fixed Assets 56,000 1,10,000 75,000
Reserves 36,000 20,000 14,400 Investments at Cost
Profit Loss A/c 32,000 4,000 10,200 - In Shares of B Ltd. 1,70,000 — —
Chand Balance 6,600 — — - In Shares of C Ltd. 36,000 1,06,000 —
Arun Balance — 14,000 — Stock in Trade 24,000 — —
Sundry Creditors 14,000 10,000 — Sundry Debtors
B Ltd.
36,600
16,000
32,000 63,000
A Ltd. — — 6,600
Total 3,38,600 2,48,000 1,44,600 Total 3,38,600 2,48,000 1,44,600
Additional Information:
1. Share Capital of all the Companies is divided in to Shares of Rs.100 each.
2. A Ltd. held 1,500 Shares of B Ltd. and 300 Shares of C Ltd., B Ltd. held 800 shares of C Ltd.
3. All investments were made on 30.06.2008.
4. On 01.01.2008, B Ltd.’s books showed a Reserves Balance of Rs.18,000 and Profit Loss Account stood at
Rs.2,000 (Cr.). On the same date, books of C Ltd. reflected the following balances: Reserves - Rs.12,000; and
PL A/c - Rs.1,680 (Cr.).
5. Dividends have not been declared by any Company during the year, nor are any proposed.
6. B Ltd. sold goods costing Rs.8,000 to A Ltd. at the price of Rs.8,800. These goods were still unsold on
31.12.2008.
7. A Ltd. remitted Rs.2,000 to B Ltd. on 30.12.2008, but the same was not received by B Ltd. as at the Balance
Sheet date.
Prepare Consolidated Balance Sheet of the Group.
Solution:
Holding Company = A Ltd.
Subsidiary = B Ltd.
Sub-Subsidiary = C Ltd.
Consolidation: 31.12.2008 a. Holding Co.
b. Minority Int.
B Ltd.
(A Ltd.) 75%
–
25%
C Ltd.
(A Ltd.) 25%
(B Ltd.) 67%
8%
Note: Shareholding Pattern is as under-
Company Held by A Ltd. Held by B Ltd. Total Holdings Minority Interest Total No. of Shares
Balu 1,500 (75%) N.A. 1,500 (75.00%) 500 (25.00%) 2,000 (100%)
Chand 300 (25%) 800 (66.67%) 1,100 (91.67%) 100 ( 8.33%) 1,200 (100%)
2. Analysis of Reserves and Surplus of Subsidiory Companies
(a) General Reserve
B Ltd. C Ltd.
On B/s date Rs.20,000 On B/s date Rs.14,400
1.1.08 Rs.18,000
Prev B/s Capital
Tfr in 2008 Rs.2,000 1.1.08 Rs.12,000
Prev B/s Capital
Tfr in 2007 Rs.2,400
1.1.08 to DOA
Rs.1,000
Capital
DOAtoDOC
Rs.1,000
Revenue
1.1.08 to DOA
Rs.1,200
Capital
DOAtoDOC
Rs.1,200
Revenue
Capital Profit-Rs.19,000; Revenue Reserve-Rs. 1,000 Capital Profit-Rs.13,200; Revenue Reserve -Rs.1,200

288
B Ltd. C Ltd.
On B/s date Rs.20,000 On B/s date Rs.10,200
1.1.08 Rs.2,000
Prev B/s Capital
Pft in 2008 Rs.2,000 1.1.08 Rs.1,600
Prev B/s Capital
Pft in 2008 Rs.8,520
1.1.08 to DOA
Rs.1,000
Capital
DOA to DOC
Rs.1,000
Revenue
1.1.08 to DOA
Rs.4,260
Capital
DOA to DOC
Rs.4,260
Revenue
Capital Profit-Rs.3,000; Revenue Reserve-Rs.1,000 Capital Profit-Rs.5,940; Revenue Reserve - Rs.4,260
Note: It has been assumed that the Profits arose evenly throughout the year.
Particulars
A Ltd.
75% 25%
B Ltd. 66.67% C Ltd.
Minority Interest A Ltd.
75% 25%
B Ltd. 66.67% C Ltd.
Minority Interest
B Ltd. C Ltd. B Ltd. C Ltd.
25% 8.33% 25% 8.33%
(a) Share Capital
2,00,000
(50,000)
1,20,000
(10,000) 50,000 10,000
2,00,000
(50,000)
1,20,000
(10,000) 50,000 10,000
1,50,000 1,10,000 1,50,000 1,10,000
General Reserve
Transfer of B Ltd.’s Share in
C Ltd. (66.67% x Rs. 19,140)
19,000
3,000
13,200
5,940
8,690
450
960
1,595
100
355
19,000
3,000
13,200
5,940
5,500
450
960
1,595
100
355
22,000
12,760
19,140
(12,760)
22,000 19,140
NOT
APPLICABLE
34,760
(8,690)
6,380
(1,595)
22,000
(5,500)
19,140
(1,595)
26,070 4,785 16,500 17,545
(c) Revenue Reserves
C Ltd. (66.67% x Rs. 1,200)
1,000
800
1,200
(800)
1,000
800
1,200
(800)
1,800
(450)
400
(100)
1,800
(450)
400
(100)
1,350 300 1,350 300
(d) Revenue Profits
C Ltd. (66.67% x Rs. 4,260)
1,000
2,840
4,260
(2,840)
1,000
2,840
4,260
(2,840)
3,840
(960)
1,420
(355)
3,840
(960)
1,420
(355)
2,880 1,065 2,880 1,065
Minority Interest
Less: Stock Reserve
(8,800 - 8,000) * 25%
60,100
200
12,050 56,910
200
12,050
Minority Interest to CBS 59,900 12,050 56,710 12,050
8.33%
25%
25%
25%
8.33%
8.33%
8.33%
8.33%

289
4. Cost of Control
Particulars Indirect Method Direct Method
A Ltd. in C Ltd.
B Ltd. in C Ltd.
1,70,000
36,000
1,06,000
1,70,000
36,000
1,06,000
Less: (a) Nominal Value of Share Capital: B Ltd.
C Ltd.
(b) Arun’s Share in Capital Profit of: B Ltd.
C Ltd.
1,50,000
1,10,000
3,12,000
(2,60,000)
(30,855)
1,50,000
1,10,000
3,12,000
(2,60,000)
(34,045)
26,070
4,785
16,500
17,545
Goodwill on Consolidation 21,145 17,955
Particulars
Add: Share of Revenue Reserves/Profits from B Ltd.
C Ltd.
36,000
1,350
300
32,000
2,880
1,065
36,000
1,350
300
32,000
2,880
1,065
Less: Stock Reserve (Rs.8,800 - Rs. 8,000) x 75%
37,650 35,945
(600)
37,650 35,945
(600)
Adjested Consolidated Balance 37,650 35,345 37,650 35,345
6. Consolidated Balance Sheet of A Ltd. and its subsidiaries B Ltd. and C Ltd. as at 31.12.2008
Liabilities Indirect Direct Assets Indirect Direct
Equity Share Capital 2,50,000 2,50,000 Fixed Assets
Reserves Surplus Goodwill on Consolidation 21,145 17,955
General Reserve 37,650 37,650 Other FA (56 + 110 + 75) 2,41,000 2,41,000
Profit Loss Account 35,345 35,345 Current Assets
Minority Interest Stock (24,000 - 800 Resve) 23,200 23,200
(a) B Ltd. 59,900 56,710 Drs (36600 + 32000 + 63000) 1,31,600 1,31,600
(b) C Ltd. 12,050 12,050 Cheque in Transit 2,000 2,000
Crs (14,000 + 10,000) 24,000 24,000
Total 4,18,945 4,15,755 Total 4,18,945 4,15,755
Notes:
• Stock Reserve i.e. unrealized profits on Closing Stock have been eliminated to the extent of holding company’s share in
P L A/c and balance adjusted towards Minority Interest.
Illustration 27: Triangle Holding - Trfr of Shares by Holding Company to its Subsidiary
K Ltd. acquired 15,000 Equity Shares out of 20,000 Equity Shares of Rs.10 each of G Ltd. on 01.04.2008 for
Rs.2,40,000. As on 01.07.2008, it transferred 5,000 Shares to its Subsidiary M Ltd. for Rs.90,000. Balance Sheets of
K Ltd., M Ltd., and G Ltd. as on 31.03.2009 were as follows - (Rs.000’s)

290
Liabilities K Ltd. M Ltd. G Ltd. Assets K Ltd. M Ltd. G Ltd.
Share Capital (Rs 10 each) 1,000 500 200 Fixed Assets 1,000 500 300
General Reserve 500 200 40 Investments
Profit Loss A/c 100 40 20 - In Sonu Ltd. 400 – –
14% Loans 100 100 100 - In Tinu Ltd. 160 90 –
Sundry Creditors 150 80 40 - Others 100 50 20
Proposed Dividends 200 100 40 Inventories 100 50 50
Debtors 100 200 40
Loan to Sonu Ltd. 100 - -
Loan to Tinu Ltd. 50 50 -
Cash Bank 40 80 30
Total 2,050 1,020 440 Total 2,050 1,020 440
K Ltd. acquired 60% shares of M Ltd. on 01.04.2008. As on that date, balances in M Ltd.’s General Reserve and P
L were Rs.1,00,000 and Rs.10,000 respectively.
As on 01.04.2008, G Ltd.’s books showed General Reserve Rs.10,000 and Profit and Loss Account Rs.2,000.
Interest on Inter-Corporate Loans within the group has not been accounted for.
Prepare Consolidated Balance Sheet of K Ltd. and its Subsidiary M Ltd. and G Ltd. as on 31.03.2009.
Solution:
Holding Company = K Ltd. Acquisitions 1.04.2008 M Ltd. G Ltd.
Subsidiary = M Ltd. Consolidation: 31.03.2009 a. Holding Co. (K Ltd.) 60% (K Ltd.) 50%
Sub-Subsidiary = G Ltd. – (M Ltd.) 25%
b. Minority Int. 40% 25%
Note: Shareholding Pattern is as under–
Company Held by K Ltd. Held by M Ltd. Total Holdings Minority Interest Total number of shares
Sonu Ltd. 30,000 (60%) – 30,000 (60%) 20,000 (40%) 50,000
Tinu Ltd. 10,000 (50%) 5,000 (25%) 15,000 (75%) 5,000 (25%) 20,000
3. Analysis of Reserves and Surplus of G Ltd.
(a) General Reserve
Balance on 31.3.2009 Rs. 40,000
Balance on 1.4.2008 10,000 Transfer during 2008-09 Rs.30,000
(Acquisition date) Capital Profit (bal. fig) Revenue Reserve
Balance on 31.03.2009 Rs. 20,000
Less: Loan Interest (Rs. 1,00,000 x 14%) Rs. 14,000
Corrected Balance Rs. 6,000
Balance on 1.4.2008 Rs.2,000 Profit for 2008-09 Rs.4,000
(Acquisition date) Capital Profits (balancing figure) Revenue Profits

291
4. Analysis of Reserves Surplus of M Ltd.
(a) General Reserve
Balance on 31.3.2009 Rs.2,00,000
Balance on 1.4.2008 1,00,000 Transfer during 2008-09 1,00,000
(Acquisition date) Capital Profit (bal. fig) Revenue Reserve
Balance on 31.03.2009 Rs. 20,000
Add: Dividend from G Ltd. (40,000 x 25% x 9/12) Rs. 7,500
Add: Loan Interest receiced from G Ltd. (50,000 x 14%) Rs. 7,000
Less: Loan Interest (Rs. 1,00,000 x 14%) Rs. 14,000
Adjusted Balance Rs. 40,500
Balance on 1.4.2008 Rs.10,000 Profit for 2008-09 Rs.30,500
(Given Acqn Date) Capital Profit (balancing figure) Revenue Profit
Total Capital Profits: Rs. 10,000; Total Revenue Profits: Rs.30,500
Note: Proposed Dividend from G Ltd. is considered only to the extent of period of holding by M Ltd. The balance dividend
for 3 months will be reduced from Cost of Investments as it relates to pre-acquisition period.
5. Computation of Minority Interest
Particulars
K Ltd. Minority Interest
60% 50% M Ltd. G Ltd.
M Ltd. 25% G Ltd. 40% 25%
(a) Share Capital
5,00,000
(2,00,000)
2,00,000
(50,000) 2,00,000 50,000
3,000
7,500
1,000
10,000
3,00,000 1,50,000
Profit Loss A/c
Transfer of M’s Share in G (12000 x 25% x 9/12)
1,00,000
10,000
10,000
2,000
1,10,000
2,250
12,000
(2,250)
1,12,250
(44,900)
9,750
(3,000) 44,900
42,250
12,500
40,000
67,350 6,750
Transfer of M’s Share in G (30,000 x 25% x 9/12)
1,00,000
5,625
30,000
(5,625)
1,05,625
(42,250)
24,375
(7,500)
Transfer of M’s Share in G (4,000 x 25% x 9/12)
63,375 16,875
30,500
750
4,000
(750)
31,250
(12,500)
3,250
(1,000)
(e) Proposed Dividend:
18,750 2,250
1,00,000
(40,000)
40,000
(10,000)
60,000 30,000
Total Minority Interest 3,39,650 71,500
For G Ltd.: Capital Reserve, Revenue Reserve Revenue Profits are to be considered only from the period of holding of M Ltd.
40%
40%
40%
25%
25%
25%

292
4. Cost of Control
Particulars Rs.
Cost of Investment in Equity Shares K Ltd. in M Ltd.
K Ltd. in G Ltd.
M Ltd. in G Ltd.
4,00,000
1,60,000
90,000
Less: Dividend out of Pre-acquisition profits in M Ltd. (40,000 x 25% x 3/12)
Less: Unrealized Profit on sale of Investment by K to M
[90,000 - (240000/15,000 x 5,000)
2,500
10,000
6,50,000
12,500
Less: Nominal Value of Equity Capital: M Ltd.
G Ltd.
Share in Capital Profit: M Ltd.
G Ltd.
3,00,000
1,50,000
67,350
“6,750
6,37,500
(5,24,100)
Particulars Gen. Res. PL A/c
Balance as per Balance Sheet of K Ltd.
Add: Proposed Dividends From G Ltd. (Rs.40,000 x 50/100)
From M Ltd. (Rs. 1,00,000 x 60/100)
Add: Interest on Loans [Rs. 1,00,000 to M + Rs.50,000 to G) x 14%]
Add: Share of Revenue Profits / Reserves: M Ltd.
G Ltd.
Less: Unrealized Profit on Sale of Investment to M
5,00,000
63,375
16,875
1,00,000
20,000
60,000
21,000
18,750
2,250
(10,000)
6. Consolidated Balance Sheet of K Ltd. and its subsidiaries M Ltd. G Ltd. as at 31.03.2009
General Reserve
Minority Interest: (a) M Ltd.
(b) G Ltd.
Loan Funds: (1,00,000 + 1,00,000
+ 1,00,000 - 1,50,000 - 50,000)
Current Liabilities
Creditors (1,50,000 + 80,000 + 40,000)
Proposed Dividend
10,00,000
5,80,250
2,12,000
3,39,650
71,500
1,00,000
2,70,000
2,00,000
Fixed Assets
Goodwill on Consolidation
Others (10,00,000 + 5,00,000 + 3,00,000)
Investments (1,00,000 + 50,000 + 20,000)
Current Assets, Loans Advances:
Debtors (1,00,000 + 2,00,000 + 40,000)
Inventories (1,00,000 + 50,000 + 50,000)
Cash Bank (40,000 + 80,000 + 30,000)
1,13,400
18,00,000
1,70,000
3,40,000
2,00,000
1,50,000
Total 27,73,400 Total 27,73,400
Notes:
• Interest on Loan taken from Others (Outsiders) is assumed to have been paid.
• Under Direct Method, Capital Profits in M Ltd. will be Rs.66,000; Minority Interest in M will be Rs.3,38,750 and
Goodwill on Consolidation will be Rs.l,12,500.

293
Illustration 28: Chain Holding /Unrealized Proﬁts on Upstream Transaction
A Ltd. is a holding Company and B Ltd. and C Ltd. are subsidiaries of A Ltd. Their Balance Sheets as on 31.12.2008
are given below-
Share Capital 1,00,000 1,00,000 60,000 Fixed Assets 20,000 60,000 43,000
Reserves 48,000 10,000 9,000 Investments in:
Proﬁt Loss A/c 16,000 12,000 9,000 - Shares of B Ltd. 95,000 — —
C Ltd. Balance 3,000 — — - Shares of C Ltd. 13,000 53,000 —
Sundry Creditors 7,000 5,000 — Stock in Trade 12,000 — —
A Ltd. Balance — 7,000 — B Ltd. Balance 8,000 — —
Sundry Debtors 26,000 21,000 32,000
A Ltd. Balance — — 3,000
Total 1,74,000 1,34,000 78,000 Total 1,74,000 1,34,000 78,000
The following particulars are given:
1. The Share Capital of all Companies is divided into shares of Rs.10 each.
2. A Ltd. held 8,000 shares in B Ltd. and 1,000 shares of C Ltd.
3. B Ltd. held 4,000 shares of C Ltd.
4. All these investments were made on 30.6.2006.
5. On 31.12.2007, the position was as shown below: (Amount in Rs.)
Particulars Reserve PLA/c Creditors Fixed Assets Stock Debtors
B Ltd.
C Ltd.
8,000
7,500
4,000
3,000
5,000
1,000
60,000
43,000
4,000
35,500
48,000
33,000
6. 10% Dividend is proposed by each Company.
7. The whole of stock in trade of B Ltd. as on 30.06.2008 (Rs.4,000) was later sold to A Ltd. for Rs.4,400 and
remained unsold by A Ltd. as on 31.12.2008.
8. Cash in transit from B Ltd. to A Ltd. was Rs.1,000 as at the close of business. You are required to prepare the
Consolidated Balance Sheet of the group as at 31.12.2008.
Solution:
Holding Company = A Ltd. Acquisition: 30.06.2007 B Ltd. C Ltd.
Subsidiary = B Ltd. Consolidation: 31.12.2008 a. Holding Co. (A) 80% (A) 16.67%
Sub–Subsidiary = C Ltd. – (B) 66.66%
b. Minority Int. 20% 16.67%
Note: The Shareholding Pattern is as under
Company Held by A Held by B Total Holdings Minority Interest Total No. of Shares
B Ltd. 8,000 (80%) N. A. 8,000 (80%) 2,000 (20%) 10,000 (100%)
C Ltd. 1,000 (16.67%) 4,000 (66.67%) 5,000 (83.33%) 1,000 (16.67%) 6,000 (100%)

294
(a) General Reserve
B Ltd. C Ltd.
Balance on 31.12.2008 Rs. 10,000 31.12.2006 Rs. 9,000
1.1.08 Prev. B/s
8,000 Capital
Tfr in 2008 Rs.2,000 1.1.08 Prev. B/s
7,000 Capital
Tfr in 2008 Rs.1,500
1.1.06 to DOA
Rs.1,000
Capital
DOA to DOC
Rs.1,000
Revenue
1.1.08 to DOA
Rs.750
Capital
DOA to DOC
Rs.750
Revenue
Capital Profit - Rs.9,000; Revenue Reserve - Rs.1,000 Capital Profit - Rs.8,250; Revenue Reserve - Rs.750
B Ltd. C Ltd.
Balance on 31.12.2008 12,000
Less: Proposed Dividend (10%* 100000) (10,000)
Add: Dividend from C Ltd. 2,000
(6/12 x 6,000 x 66.67%)2,000
Balance on 31.12.2008 9,000
Less: Proposed Dividend (10x60,000) 6,000
1.1.08 Prev. B/s
4,000 Capital
Profit in 2008 NIL 1.1.08 Prev. B/s
3,000 Capital
Profit in 2008
NIL Revenue
3. Analysis of Net Worth of Subsidiary Companies (Indirect Method)
Particulars
A Ltd. Minority Interest
80% 16.67% B Ltd. C Ltd.
B 66,67% C 20% 16.67%
(a) Share Capital
1,00,000
(20,000)
60,000
(10.000) 20,000
4,100
300
–
2,000
10,000
1,875
125
–
1,000
80,000 50,000
General Reserve
Trfr. B’s share in C (66.67% x Rs.l 1,250)
9,000
4,000
8,250
3,000
13,000
7.500
11,250
(7,500)
20,500
(4,100)
3,750
(1,875)
16,400 1,875
Trfr. B’s share in C (66.67% x Rs.750)
Holding Co.’s Share
1,000
500
750
(500)
1,500
(300)
250
(125)
1,200 125
(d) Revenue Profits NIL NIL
10,000
(2,000)
6,000
(1,000)
8,000 5,000
Minority Interest Before Stock Reserve Adjustment
Less: Share of Minority Interest of B in
Unrealized Profits (4,400 - 4,000) x 20%
26,400
(80)
13,000
–
Minority Interest 26,320 13,000
20%
16.67%
16.67%
20%

295
4. Cost of Control
Particulars Rs.
A Ltd. in C Ltd.
B Ltd. in C Ltd.
95,000
13,000
53,000 1,61,000
Less: Dividend out of Pre-acqn. Pfts (For 01.01.2005 to 30.06.2005)
From B Ltd. (8000 Shares x Rs.10 x 10% x 6/12]
From C Ltd. (5000 Shares x Rs.10 x 10% x 6/12)
4,000
2,500 6,500
Less: (a) Nominal Value in Share Capital of: B Ltd.
C Ltd.
(b) Share in Capital Proffits B Ltd.
C Ltd.
80,000
50,000
1,54,500
(1,30,000)
(18,275)
16,400
1,875
Particulars Gen. Res. P L A/c
Less: Proposed Dividend (Rs. 1,00,000 x 10%)
Add: Share of Proposed Dividend (01.07.2008 to 31.12.2008) from
B (8000 Shares x Rs.10 x 10% x 6/12)
C (1000 Shares x Rs.10 x 10% x 6/12)
48,000
–
–
–
16,000
(10,000)
4,000
500
Adjusted Balance
Add: Share of Revenue from B Ltd.
C Ltd.
48,000
1,200
125
10,500
NIL
NIL
Less: Stock Reserve [Rs.4,400 - Rs.4,000] x 80%
49,325
–
10,500
(320)
Corrected Consolidated Balance 49,325 10,180
6. Consolidated Balance Sheet of A Ltd. and its Subsidiaries B and C as at 31.12.2008
Share Capital: Equity Capital 1,00,000 Fixed Assets:
Reserves and Surplus: Goodwill on Consolidation 6,225
General Reserve 49,325 Other Assets (20,000 + 60,000 + 43,000) 1,23,000
Profit Loss Account 10,180 Current Assets
Minority Interest: (a) B 26,320 Stock in Trade (12,000 - 400 Stock Reserve) 11,600
(b) C 13,000 Sundry Debtors [26,000 + 21,000 + 32,000] 79,000
Current Liabilities: Cash-in-transit (8,000 + 3,000 - 7,000 - 3,000) 1,000
Sundry Creditors (7,000 + 5,000) 12,000
Intercompany Borrowings NIL
Total 2,20,825 Total 2,20,825
Note: Under Direct Method,
(a) Capital Profit will be: (1) B Ltd. - Rs. 10,400; (2) C Ltd. - Rs.9,375
(b) Minority Interest will be: (1) B Ltd. - Rs.24,820; (2) C Ltd. - Rs. 13,000.
(c) Goodwill on Consolidation: Rs.4,725.

296
Illustration 29: Chain Holdings - Multiple Subsidiaries
Following are the Balance Sheets of R Ltd., S Ltd, T Ltd. and U Ltd. as at 31.12.2008 -
Particulars R Ltd. S Ltd. T Ltd. U Ltd.
Liabilities
Share Capital (Rs.100 Face Value) 5,00,000 4,00,000 2,00,000 6,00,000
General Reserve 2,00,000 40,000 25,000 1,00,000
Profit Luss Account 1,00,000 40,000 25,000 32,000
Sundry Creditors 30,000 10,000 5,000 8,000
Total 8,30,000 4,90,000 2,55,000 7,40,000
Assets
Investments:
3,000 Shares in S Ltd. 3,50,000 – – –
1,000 Shares in T Ltd. 1,10,000 – – –
500 Shares in T Ltd. – 50,000 – –
Shares in U Ltd. at Rs.120 3,60,000 1,80,000 60,000 –
Fixed Assets – 2,00,000 1,50,000 7,00,000
Current Assets 10,000 60,000 45,000 40,000
Total 8,30,000 4,90,000 2,55,000 7,40,000
Balance in General Reserve A/c and P L Account, when shares were purchased in different Companies were -
Particulars R Ltd. S Ltd. T Ltd. U Ltd.
General Reserve Account
1,00,000
60,000
20,000
20,000
10,000
5,000
60,000
6,000
Prepare the Consolidated Balance Sheet of the Group as at 31.12.2008.
Solution:
Holding Company = R Ltd.
Subsidiary = S Ltd.
Sub-Subsidiary 1 = T Ltd.
Sub-Subsidiary 2 = U Ltd.
Acquisition: Various dates
Consolidation 31.12.2008 a. S
b. T
c. U
Holding
(R)75%
(R)50%+(S)25%
(R)50%+(S)25%+(T)8.3%
Minority
25%
25%
16.7%
Note: The Slareholding Pattern is as under -
Company Held by R Held by S Held by T
Total
Holdings
Minority
Interest
Total
Shares
S Ltd. 3,000 (75%) N.A. —
3,000
(75%)
1,000
(25%)
4,000
(100%)
T Ltd. 1,000(50%) 5,000 (25%) N.A.
1,500
(75%)
500
(25%)
2,000
(100%)
U Ltd.
3.6 Lacs/120 =
3,000 (50%)
1.8 Lacs/ 120 =
1,500(25%)
0.6 Lacs/ 120 =
5.00 (8.33%)
5,000
(83.33%)
1,000
(16.67%)
6,000
(100%)
2. Analysis of Reserves Surplus of Subsidiary Companies
(a) Saran Ltd
General Reserve Profit Loss Account
Balance on 31.12.08 40,000 Balance on 31.12.08 40,000
DOA 20,000
Capital
Transfer between
DOA DOC
20,000
Revenue
DOA 20,000
Capital
Profit between
DOA DOC
20,000
Revenue

297
(b) T Ltd.
Balance on 31.12.08 25,000 Balance on 31.12.08 25,000
DOA 10,000
Capital
Transfer between
DOA DOC
15,000
Revenue
DOA 5,000
Capital
Proﬁt between
DOA DOC
20,000
Revenue
(c) U Ltd.
Balance on 31.12.08 1,00,000 Balance on 31.12.08 32,000
DOA 60,000
Capital
Transfer between
DOA DOC
40,000
Revenue
DOA 6,000
Capital
Proﬁt between
DOA DOC
26,000
Revenue
Particulars
Share of R Minority Interest
75% 50% 50% S T U
S T U
25% 25% 16.67%
(a) Share Capital
4,00,000
(1,00,000)
2,00,000
(50,000)
6,00,000
(1,00,000) 1,00,000
15,406
8,646
50,000
5,125
4,583
1,22,002
11,002
4,445
3,00,000 1,50,000 5,00,000
General Reserve
Trfr. T ’s share in U
(6,60,000 x 8.33%)
Trfr. Saran’s share in U
(6,60,000 x 25%)
Trfr. Saran’s share in T
(20,498 x 25%)
20,000
20,000
10,000
5,000
60,000
6,000
40,000
NIL
16,500
15,000
5,498
NIL
66,000
(5,498)
(16,500)
56,500
5,125
20,498
(5,125)
44,002
NIL
61,625
(15,406)
15,373
(5,125)
44,002
(11,002)
46,219 10,248 33,000
(c) Revenue Reserves
General Reserve
Trfr. T’s share in U
(40,000 x 8.33%)
Trfr. S’s share in U
(40,000 x 25%)
Trfr. S’s share in T
(18,333 x 25%)
20,000
NIL
10,000
15,000
3,333
NIL
40,000
(3,333)
(10,000)
30,000
4,583
18,333
(4,583)
26,667
NIL
34,583
(8,646)
13,750
(4,583)
26,667
(6,667)
25,937 9,167 20,000
25%
25% 8.33%

298
(d) Revenue Profits
Profit Loss Account 20,000 20,000 26,000
Trfr. T’s share in U
(2,60,000 x 8.33%)
NIL 2,167 (2,167)
Trfr. S’s share in U
(2,60,000 x 25%)
6,500 NIL (65,000)
26,500 22,167 1,733
Trfr. S’s share in T 5,542 (5,542) NIL
(2,21,667x25%)
32,042 16,625 17,333
(8,010) (5,547) (4,333) 8,010 5,542 4,333
24,032 11,083 13,000
Minority Interest 1,32,062 65,250 1,41,782
4. Cost of Control
Particulars Rs.
Cost of Investments: R Ltd. in S Ltd.
R Ltd. in T Ltd.
R Ltd. in U Ltd.
S Ltd. in T Ltd.
S Ltd. in U Ltd.
T Ltd. in U Ltd.
3,50,000
1,10,000
3,60,000
50,000
1,80,000
60,000 11,10,000
(9,50,000)
(89,467)
Less: (a) Paid up Value of Share Capital - S Ltd.
- T Ltd.
- U Ltd.
(b) Share in Capital Profits of - S Ltd.
- T Ltd.
- U Ltd.
3,00,000
1,50,000
5,00,000
46,218
10,249
33,000
Particulars Gen. Res. P L A/c
Balance as per Balance Sheet of R Ltd.
Add: Share of Revenue from - S Ltd.
- T Ltd.
- U Ltd.
2,00,000
25,938
9,167
20,000
1,00,000
24,031
11,083
13,000
6. Consolidated Balance Sheet of Rajan and its subsidiaries Saran, Tripti and Upanya as at 31.12.2008
Share Capital: Equity Capital 5,00,000 Fixed Assets:
Reserves Surplus: P L A/c 2,55,105 Goodwill on Consolidation 70,533
General Res. 1,48,114 Other Assets [NIL + 20,00 + 15,00 + 70,00] 10,50,000
Minority Interest: S Ltd. 1,32,062 Current Assets [1,00 + 6,00 + 4,50 + 4,00] 1,55,000
T Ltd. 65,250
U Ltd. 1,22,002
Curr. Liabs.: [3,00 + 1,00 + 50 + 80] 53,000
Total 12,75,533 Total 12,75,533
Note: Under Direct Method -
(a) Capital Profit will be (1) S - Rs.3,00,000; (2) T - Rs. 1,12,500; (3) U - Rs.5,50,000.
(b) Minority Interest will be (1) S - Rs.12,66,562; (2) T - Rs.6,38,750; (3) U - Rs. 12,00,000.
(c) Capital Reserve on Consolidation Rs.6,37,500

299
3.3 Preparation of The Group Cash Flow Statement:
The actual cash paid for the subsidiary is shown under the heading ‘Acquisitions and Disposals’. It is
possible that the purchase consideration will include other forms of payments such as the issue of shares
or loan stock and there is no cash flow effect in these cases.
In exchange for the purchase consideration, the group acquires the individual net assets of the subsidiary
and goodwill is recognized on acquisition.
The net assets in the closing consolidated Balance Sheet will include those of the newly acquired subsidiary.
The preparation of the group cash flow statement must recognize that the movement from opening to
closing positions is increased in party by the net assets of the new subsidiary and the amounts relating to
that subsidiary are therefore excluded from the cash flow statement.
Foe example, additions to fixed assets are represented by purchases during the year plus fixed assets of
the acquired subsidiary. This is broken down as follows:
Opening + cash purchases + fixed assets of – disposals- depreciation=closing
NBV for additions acquired subsidiary NBV
Only cash purchase for additions are included in the cash flow statement under ‘inventive activities’.
Problem:
A Ltd. acquires 80% of the shares of B Ltd. on 31st
March 19x3. The fair values of B Ltd. assets at that
date are
Rs in ‘000
Tangible fixed assets 60
Stocks 20
Cash 10
90
The purchase consideration consists of 50,000 at Re.1 ordinary shares valued at par and Rs.50, 000 cash.
The summary consolidated Balance Sheet as at 31st
December 19x2 and 19x3 the Profit and Loss accounts
for the year are as follows:

300
CONSOLIDATED BALANCE SHEET 19x2 19x3
Rs. 000’s Rs. 000’s
Tangible fixed assets 600 500
Stocks 140 100
Debtors 90 80
Cash 25 10
Creditors (including taxation of Rs.52000 each year) -75 -60
780 630
Called up share capital 550 500
Profit and Loss Account 180 120
730 620
Minority interest 50 10
780 630
Profit and Loss A/c
consolidated
19x3
Including
following
post
acquisition
amounts
from B Ltd.
Rs.
000’s
Rs.
000’s
profit before depreciation 283 84
depreciation 53 4
operating profit 230 80
interest payable (and paid) 25 -
profit before taxation 205 80
taxation -52 -20
profit after taxation 153 60
minority interest -45
Profit for the year attributable to members of A Ltd. 108
dividends paid 20
retained profits for the year 88
retained profit as 1st January 19x3 120
goodwill written off -28
retained profit at 31st December 19x3 180
During the year the group purchased ﬁxed assets for Rs.93, 000, of which Rs.2, 000 were bought by B Ltd.
after its acquisition. There was no disposal of ﬁxed assets. B Ltd. not to pay a dividend in 19x3. Its stock,
debtors and creditors each increased by Rs.10, 000 and the company paid tax of Rs.10,000 during the post-
acquisition period of 19x3.

301
Prepare the group cash flow statement for A Ltd. for the year ended 31st
December 19x3.
Solution:
Note 1: Reconciliation of operating profit to net cash inflow from operating activities:
Operating profit 230
depreciation charges 53
increase in stock (140-100-20) -20
increase in debtors (90-80) -20
increase in creditors (75-52) - (60-52) 15
Net cash inflow from operating activities 268
2. Returns on investments and servicing of finance
Interest paid 25
Dividend paid to members of A Ltd. 20
Dividend paid to minority interest 23
68
Minority interest
(Rs. in thousand)
Balance b/fwd 10
Dividend paid to minority interest (bal fig) 23
Net assets of subsidiary acquired
(20%x90) 18
Balance c/fwd 50
Profit Loss A/c 45
73 73
3. Taxation is Rs. 52,000
4. Investing activities:
Fixed assets
(Rs. in thousand)
Balance b/fwd 500
Fixed assets acquired with subsidary acquired 60 depreciation 53
Additions (bal fig) 93
Balance c /fwd 600
653 653
Purchase of subsidiary:
The cash paid for the subsidiary will be reported net of cash acquired. The figure required is therefore
Rs.50,000 – Rs.10,000 = Rs. 40,000.

302
5. Financing:
The only change in the financing of the group is the share issue. However, the shares were not issued for
cash, but as consideration for the acquisition of the subsidiary. This would therefore not appear in the cash
flow statement but in a note such as the following.
Note 2. Major non-cash transactions:
Part of the consideration for the purchase of the subsidiary undertaking, B Ltd., comprised shares. Further
details of the acquisition are given in Note 5.
A Group Ltd.
Cash flow statement for the year ended 31st December 19x3
Rs. In, thousand
Cash flow from operating activities 268
Returns on investment and service of finance:
interest paid -25
Dividend paid to minority interest -23 -48
Taxation -52
Capital expenditure:
Purchase of fixed assets -93
Acquisition and disposal
Purchase of subsidiary undertaking -50
cash balance acquired with subsidiary -10 -40
equity dividends paid -20
Increase in cash in the period 15
6. The remaining notes to the cash flow statement can be produced.
Note 3. Analysis of net debt
at 1 January cash flow at 31 December
19x5 19x5
cash at bank and in hand 10 15 25
Note 4. Purchase of subsidiary undertaking
Net assets acquired
Tangible fixed assets 60
Stocks 20
Cash 10
90
Minority interest (20%x90) -18
72
Goodwill 28
100
satisfied by:
Shares allotted 50
Cash 50
100

303
The subsidiary undertaking acquired during the year contributed Rs. 74,000 to the group’s net operating
cash flows, paid tax of Rs. 10,000 and utilized Rs.2,000 for investing activities.
Workings for operating cash flow
operating profit 80
Depreciation 4
increase in stock -10
increase in debtors -10
increase in creditors 10
subsidiary’s contribution to the net operating cash flows of the group 74
The Rs.2,000 investing activities relates to the fixed assets acquired by B Ltd.
Note 6. Analysis of the net outflow of cash equivalent in respect of the
Purchase of the subsidiary undertaking:
Cash consideration 50
Cash acquired -10
Net outflow of cash and cash equivalents in respect of the purchase
of the subsidiary 40

304
Problems
1. Basic Concepts
Problem - 1
Balance Sheets of S Ltd. as at 31st March, 94 were as below
Liabilities S Ltd. T Ltd.
Rs. Rs.
Share capital (shares of Rs. 10 each) 500,000 200,000
Reserves 240,000 100,000
Bank Overdraft 80,000 -
Bills Payable - 8,400
Creditors 47,100 9,000
Total 924,300 399,400
Assets Rs. Rs.
Land and buildings 150,000 180,000
Plant and machinery 240,000 135,000
Investment in T Ltd. 340,000 -
Stock 120,000 36,400
Sundry debtors 44,000 40,000
Bills receivable 15,800 -
Cash 14,500 8,000
Total 924,300 399,400
S Ltd. had acquired 16,000 shares of T Ltd. on 1st
October, 1993. The Proﬁt and Loss Account of T Ltd.
stood at Rs. 30,000 (Credit) on 31st
March, 1993 out of which a dividend of 10% was paid on 1st
November
1993. S Ltd. had credited its share of dividend to its Proﬁt and Loss A/c.
S had sold an item of machinery to T Ltd. on hire-purchase basis. In respect of this machinery, the following
were the balances in its books as of 31st
March 1994.
Installments due 5,000
Installments not due 2,000
HP Stock reserve 400
The above items are included under appropriate heads in the Balance Sheet.

305
Prepare the consolidated Balance Sheet of the two companies as on 31st
March 1994.
Solution
Consolidated Balance Sheet of S Ltd. and its subsidiary T Ltd. as on 31st
March 1994.
Liabilities
Amount
Rs. Assets
Amount
Rs.
Share Capital 500,000 Fixed assets
Reserves and surplus Goodwill (WN 6) 87,200
Reserves (WN 8) 280,000 Land and building 330,000
Proﬁt and Loss A/c (WN 8) 70,000 Plant and Machinery 375,000
Current assets, loans and
advances
Current liabilities Provisions Stock (WN 7b) 154,800
Bank overdraft 80,000 Debtors (WN 7a) 79,000
Bills payable 8,400 Cash 22,500
Creditors (WN 7a) 49,500 Bills receivable 15,800
1,064,300 1,064,300
Working Notes:
W.N. 1: Date of acquisition – 1 October 1993
W.N. 2: Share holding pattern
Particulars No. of shares % of holding
S Ltd. 16,000 80
Minority interest 4,000 20
W.N. 3: Analysis of Profits of T Ltd.
a) Profit and Loss A/c
Rs. Rs.
Less :Opening balance 30,000
Dividend Paid (20,000) 10,000 Capital Profit
Current Year profit 72,000
April to September 36,000 Capital Profit
October to March 36,000 Revenue Profit
b) Reserves
Rs
April to September 50,000 Capital Profit
Note:
The balance in general reserve is assumed to be accumulated during the year only.

306
W.N. 4: Apportionment of profits
Rs.
Particulars Pre-acquisition Post Acquisition
CP RP RR
Profit and Loss A/c 46,000 36,000 -
Reserves (W.N 3b) 50,000 - 50,000
Total 96,000 36,000 50,000
S Ltd. - 80% 76,800 28,800 40,000
Minority interest - 20% 19,200 7,200 10,000
W.N. 5: Minority Interests
Particulars Amount
Share capital 40,000
Capital profit (W.N. 4) 19,200
Revenue Profit (W.N.4) 7,200
Revenue Reserve (W.N.4) 10,000
Total 76,400
W.N. 6: Cost of control
Cost of Investment
Amount invested 340,000
less: Pre-acquisition dividend (16,000) 324,000
(10% of 160,000 as dividend for the year 2002-03)
S Ltd. ’s share of net assets of T Ltd. on the date
of acquisition represented by
Capital Profit (W.N.4) 76,800 236,800
Goodwill 87,200
W.N. 7: Inter company adjustments
a) Inter Company Owings
Particulars Debtors Creditors
Aggregate balances in books 84,000 56,100
Less: Installments due on H.P (5,000) (5,000)
Less: Installments not due on H.P - (1,600)
Net for C.B.S 79,000 49,500

307
b) Stock:
Particulars
Aggregate balances in books
S Ltd. 120,000
T Ltd. 36,400 156,400
Less; Installments not due on HP (1,600)
Net for C.B.S 154,800
Assuming that HP stock reserve which represents future proﬁt is included in the stock.
c) Plant and Machinery (downstream)
Particulars
Aggregate balances in books
S Ltd. 240,000
T Ltd. 135,000 375,000
Less: Elimination of proﬁt on HP -
Net for C.B.S 375,000
Since the asset taken on hire purchase is capitalized only at cost as per A.S 19 it does not include H.P
Interest (profit) element.
W.N. 8: Reserves for C.B.S
Rs.
Particulars Reserves
Profit and
Loss A/c
Balance in S Ltd. 240,000 57,200
Share of post acquisition profit from T Ltd. 40,000 28,800
Less: Pre-acquisition dividend - (16,000)
Net for C.B.S 280,000 70,000
Problem - 2
Alpha Ltd. acquired 8,000 shares of Rs. 10 each in Omega Ltd. on 31st
December 1994. The summarized
Balance Sheet of the two companies as on that date was as follows:
Liabilities Alpha Ltd. Omega Ltd.
Rs. Rs.
Share capital
30,000 shares of Rs. 10 each 300,000 -
10,000 shares of Rs. 10 each - 100,000
Capital reserves - 52,000
General reserves 25,000 5,000
Loan from Omega Ltd. 2,100 -
Bills Payable (including Rs. 500 to Alpha Ltd. ) - 1,700
Creditors 17,900 5,000
Total 383,200 181,700
Assets Rs. Rs.

308
Fixed Assets 150,000 144,700
Investment in Omega Ltd. at cost 170,000 -
Stock in hand 40,000 20,000
Loan to Alpha Ltd. - 2,000
Bills receivable (including Rs. 200 form Omega Ltd. ) 1,200 -
Debtors 20,000 10,000
Bank 2,000 5,000
Total 383,200 181,700
Contingent Liability for Bills discounted 1,000 -
You are given the following information:
a. Omega Ltd. made a bonus issue on 31st
December 1994 of one share for every two shares, by reducing
the capital reserve equivalently; but the transaction is not shown in the above Balance Sheet.
b. Interest receivable (Rs. 100) in respect of the loan due by Alpha Ltd. to Omega Ltd. has not been
credited in the accounts of Omega Ltd.
c. The directors decided that the fixed assets of Omega Ltd. were over valued and should be written
down by Rs. 5,000.
Prepare the consolidated Balance Sheet as at 31st
December 1994, showing your working.
Solution
Consolidated Balance Sheet of S Ltd. and its subsidiary T Ltd.
as on 31st
March 1994
Share Capital 300,000 Fixed Assets
Reserves and surplus Goodwill 33,920
General reserve - W.N. 8 25,000 Others 289,700
Profit and Loss A/c - W.N 8 38,200
Current assets, loans and
advances
Minority interest - W.N 5 34,020 Current assets
Creditors 22,900 Stock 60,000
Bills payable - W.N. 7b 1,500 Debtors 30,000
Bank 7,000
Loans and advances
Bills receivable - W N 7b 1,000
421,620 421,620
Note:
Contingent liability on bill discounted Rs. 700.
Bills discounted by Alpha Ltd. out of bills received from Omega Ltd. were Rs. 300. This will no longer
remain contingent liability of Alpha Ltd. when consolidated Balance Sheet is prepared. Hence, contingent
liability in respect of bills discounted would be reduced to Rs. 700.

309
W.N. 1: Date of acquisition – 31 December 1994
Alpha Ltd. 8,000 80
W.N. 3: Analysis of Proﬁts of Omega Ltd.
c) Capital reserve A/c
Particulars Rs.
Less : Bonus Paid (50,000)
Revised closing balance 2,000 Capital Profit
d) General reserve
Closing balance – Rs 5,000 – Capital profit
e) Profit and Loss account
Particulars Rs.
Closing balance 18000
Add: Interest receivable from Alpha Ltd. now accounted 100
Revised closing balance 18100 Capital Profit
f) Loss on revaluation of fixed assets
Rs. 5000 – Captial Loss
Rs.
Partiuclars Pre-acquisition Post Acquisition
CP RP RR
Capital reserve 2,000 - -
General Reserve 5,000 - -
Profit and Loss A/c 18,100 - -
Revaluation loss (5,000) - -
Total 20,100 - -
Alpha Ltd. - 80% 16,080 - -
Minority interest - 20% 4,020 - -

310
Particulars Amount
Share capital (including bonus) 30,000
Capital profit (W.N. 4) 4,020
Total 34,020
Cost of Investment
Share of net assets represented by
Paid up Share capital (including bonus) 120,000
Capital Profit (W.N. 4) 16,080 136,080
W.N. 7: Inter company transactions
a) Loan:
Rs.
Particulars
Alpha
Ltd.
Omega
Ltd.
Balances in books 2,100 2,000
Add: Interest now accounted - 100
Less: Inter company owings (2,100) (2,100)
Net for C.B.S - -
b) Bills
Rs.
Particulars Bills Payable Bills receivable
Less: Inter company owings (200) (200)
Net for C.B.S 1,000 1,500
Rs.
Particulars
General
Reserves
Profit and
Loss A/c
Alpha Ltd. balance 25,000 38,200

311
Problem - 3
The Balance Sheet of S Ltd. and M Ltd. as on 31 March 2004 are given below
Liabilities
S Ltd.
Rs.
M Ltd.
Rs. Assets
S Ltd.
Rs.
M Ltd.
Rs.
Share Capital 120,000 100,000 Fixed assets 44,000 84,000
General reserve 20,000 36,000
Investments in
M Ltd.
8000 shares @
Rs. 11 88,000 -
Profit and Loss A/c 12,000 20,000 Sundry debtors 6,000 15,000
Bills payable 2,000 5,000 Stock in trade 10,000 40,000
Sundry Creditors 4,000 7,000 Cash at bank 6,000 13,000
Bill receivable 4,000 16,000
158,000 168,000 158,000 168,000
Contingent liability of S Ltd. : Bills discounted not yet matured Rs. 2,500.
Shares were purchased on 1st Apr 2001. When the shares were purchased, general reserve and Profit and
Loss A/c of M Ltd. stood at Rs. 30,000 and Rs 16,000 respectively. Dividends have been paid @ 10% every
year after acquisition of shares, first dividend being paid out of pre-acquisition profits. No dividend has
been proposed for 2003-04 as yet and no provision need be made in consolidated Balance Sheet. S Ltd. has
credited all dividends received to Profit and Loss A/c.
On 31st March 2004, bonus shares has been declared by M Ltd. @ 1 fully paid share for 5 held, but no
effect has been given to that in the above accounts. The bonus was declared out of profits earned prior to
1 April 2001 from general reserve.
When the shares were purchased, agreed revaluations of Fixed assets of M Ltd. was Rs. 108,000 although
no effect has been given thereto in accounts.
Depreciation has been charged @ 10% p.a. on the book value as on 1st April 2001, (on straight line method),
there being no addition or sale since then.
Out of current profits Rs. 2,000 has been transferred to general reserve every year. Bills receivable of S Ltd.
include Rs. 2,000 bills accepted by M Ltd. Bills discounted by S Ltd. but not yet matured include Rs. 1,500
accepted by M Ltd. Sundry creditors of S Ltd. include Rs. 2,000 due to M Ltd. whereas sundry debtors of
M Ltd. include Rs. 4,000 due from S Ltd. It is found that S Ltd. has remitted a cheque of Rs. 2,000, which
has not yet been received by M Ltd.
Prepare consolidated Balance Sheet as at 31st March 2004 of S Ltd. and its subsidiary.

312
Solution
Consolidated Balance Sheet of S Ltd.
and its subsidiaries at 31 March 2004.
Share Capital
12000 shares of Rs. 10 each
120,000 Fixed assets
119,600
Capital reserve - W.N 6 19,200 Stock in trade 50,000
General reserve - W.N. 8 24,800 Cash in hand 19,000
Profit and Loss A/c - W.N 8 18,080 Remittance in transit - W.N 7b 2,000
Minority interest - W.N 5 29,520 Debtors - W.N 7b 17,000
Bills payable - W.N. 7a 5,000 Bills receivable - W N 7a 18,000
Sundry Creditors - W.N. 7b 9,000
225,600 225,600
Consolidation liability for bills discounted Rs 1,000.
Working Notes
W.N. 1: Date of acquisition – 1 April 2001
S Ltd. 8,000 80
W.N. 3: Analysis of Profits of T Ltd.
g) General reserve A/c
Rs Rs
Less :Opening balance 30,000
Bonus Paid – 100,000 X 1/5 (20,000) 10,000 Capital Profit
Subsequent years profit 6,000 Revenue reserve
h) Loss on revaluation
Particulars Amount
Balance As on 31 March 2004 84,000
Balance As on 31 March 2004
84,000 X 100/70 120,000
Less: Revalued amount (108,000)
Loss on Revaluation – Capital Loss 12,000

313
i) Profit and Loss A/c
Less : Opening balance 16,000
Dividend Paid (10,000) 6,000 Capital Profit
Subsequent years profit 14,000
Depreciation written back 3,600
Depreciation:
Rs. 12,000 x 10/100 x 3 Years = Rs. 3,600 – reduction in ﬁxed assets.
Rs.
Particulars Pre-acquisition Post Acquisition
CP RP RR
General Reserve 10,000 6,000 -
Profit and Loss A/c 6,000 - 17,600
Revaluation loss (12,000) - -
Total 4,000 6,000 17,600
S Ltd. - 80% 3,200 4,800 14,080
Minority interest - 20% 800 1,200 3,520
Particulars Amount
Capital profit (W.N. 4) 800
Revenue Profit (W.N.4) 3,520
Revenue Reserve (W.N.4) 1,200
Bonus shares (20,000 x 20%) 4,000
Total 29,520
Cost of Investment
less: Pre-acquisition dividend (8,000) 80,000
(10% of 80,000)
S Ltd. ’s share of net assets of M Ltd. on the date of
acquisition represented by
Paid up Share capital 96,000
Capital Profit 3,200 99,200

314
W.N. 7: Inter company transactions
c) Bills
Rs.
Particulars Bills Payable Bills receivable
Less: Inter company Owings (2,000) (2,000)
Net for C.B.S 5,000 18,000
d) Owings
Rs.
Less: Inter company Owings (4,000) (2,000)
Net for C.B.S 17,000 9,000
Remittance in transit – Rs. 2,000 (relates to amount remitted by cheque, not yet received by M Ltd. )
Rs.
Particulars
General
Reserves
Profit and
Loss A/c
Balance in S Ltd. 20,000 12,000
Share of post acquisition profit from T Ltd. 4,800 14,080
Less: Pre-acquisition dividend - (8,000)
Net for C.B.S 24,800 18,080
Problem - 4
The Balance Sheet of J Ltd. and its subsidiary K Ltd. as on 31st
March, 2005 are as under:
Liabilities
J Ltd.
(Rs.)
K Ltd.
(Rs.) Assets
J Ltd.
(Rs.)
K Ltd.
(Rs.)
Share Capital Goodwill 450,000 300,000
Equity shares of
Rs.10 each 4,800,000 2,000,000 Plant Machinery 1,200,000 500,000
10% Preference
share capital
of Rs.100 each 700,000 380,000 Motor vehicles 950,000 750,000
General Reserve 550,000 420,000 Furniture Fixtures 650,000 400,000
Profit loss 1,000,000 600,000 Investments 2,600,000 450,000
Bank overdraft 120,000 70,000 Current assets:
Sundry creditors 430,000 480,000 Stocks 450,000 720,000
Bills payable - 160,000 Cash at bank 225,000 210,000
Sundry debtors 930,000 780,000
Bill receivable 145,000 -
Total 7,600,000 4,110,000 Total 7,600,000 4,110,000

315
Details of acquisition of shares by J Ltd. are as under:
Nature of share Nos. acquired Date of acquisition Cost of acquisition
Preference
Equity
Equity
14,250
80,000
70,000
01.04.2002
01.04.2003
01.04.2004
3,10,000
9,50,000
8,00,000
Other information:
1) On 01.04.2004, Profit Loss A/C and general reserve of J Ltd. had credit balance of Rs. 3, 00,000
Rs. 2, 00,000 respectively.
2) Dividend @ 10% was paid by K Ltd. for the year 2003-04 out of its Profit Loss A/C balance as on
01.04.2004. J Ltd. credited its share of dividend to its Profit Loss A/C.
3) K Ltd. allotted bonus shares out of general reserve at the rate of 1 share for every 10 share held.
Accounting thereof has not yet been made.
4) Bills receivable of J Ltd. were drawn upon K Ltd.
5) During the year 2004-05 J Ltd. purchased goods from K Ltd. for Rs. 1, 00,000 at a sale price of
Rs. 1, 20,000. 40% of these goods remained unsold at the close of the year.
6) On 01.04.2004 machinery of K Ltd. were overvalued by Rs.1, 00,000. Applicable depreciation rate is
20%.
7) Dividends recommended for the year 2004-05 in the holding and the subsidiary companies are 15%
and 10% respectively.
Prepare the consolidated Balance Sheet as on 31st
March, 2005.
Solution:
Consolidated Balance Sheet of J Ltd. as on 31.03.2005
Liabilities Rs. Rs.
Share Capital: Goodwill acquired 750,000
Equity shares of Rs.10 each 4,800,000 Goodwill 197,500
10% Preference share capital
of Rs.100 each 700,000 Plant Machinery) 1,620,000
General Reserve (WN-8) 715,000 Motor vehicles 1,700,000
Profit Loss (WN-8) 594,000 Furniture Fixtures 1,050,000
Minority interest (WN-5) 970,500 Investments 990,000
Bank overdraft 190,000 Current assets:
Sundry creditors 910,000 Stocks 1,162,000
Bills payable (WN-7) 15,000 Cash at bank 1,710,000
Proposed dividend 720,000 Sundry debtors 435,000
Total 9,614,500 Total 9,614,500

316
Working Notes:
WN-1: Date of acquisition- as given
WN-2: Share holding pattern
Particulars
No of shares
% of holding
Before bonus After bonus
a. J Ltd.
i. 1st acquisition 80,000 88,000 40
ii. 2nd acquisition 70,000 77,000 35
iii. Total 150,000 165,000 75
b. Minority Interest 50,000 55,000 25
c. Grand Total 200,000 220,000
WN-3: Analysis of proﬁts (with respect to II acquisition)
a. General reserve:
1) Closing balance – Rs.4, 20,000
Opening balance – Rs. 2, 00,000
less: Bonus issue – Rs.2, 00,000
CP NIL
2) Subsequent appropriation Rs. 2,20,000 = RR
Note:
i. Bonus is assumed to be made out of opening reserve.
ii. In the absence of information the analysis of reserves is done only with reference to the date of
second acquisition, which gives the controlling interest.
b. Gain/ (Loss) on revaluation of assets:
Loss on revaluation of machinery = (Rs. 1, 00,000) = CP
c. Profit Loss A/C:
• Closing balance- Rs.6, 00,000
• Opening balance-Rs.3,00,000
• Less: dividend - (2,00,000)
• (20 lakhs*10%) 1, 00,000 = CP
Note: It is assumed preference dividend have already been provided for and paid.

317
WN-4: Apportionment of profits
Particulars
Pre acquisition Post-acquisition
CP RR RP
General reserve - 220,000 -
Profit Loss A/C 100,000 - 300,000
Loss on revaluation of machinery (100,000) - -
Total - 220,000 300,000
J Ltd. (75%) 165,000 225,000
Minority Interest 55,000 75,000
WN-5 Minority interest:
Particulars Rs
Equity share capital (25%) (including bonus) 550,000
Capital profit (WN-4) -
Revenue reserve (WN-4) 55,000
Revenue profit (WN-4) 75,000
share of dividend from K Ltd. 55,000
Preference share capital 237,500
Less: Unrealized profit on stock(Wn-7) (2,000)
970,500
WN-6: Cost of Control:
Particulars Rs. Rs.
Cost of investment
1. Amount invested 20,60,000
2. Less: Pre-acquisition Dividend # (70,000) 19,90,000
P Ltd. share of Q Ltd. net assets as at 01.04.2003 represented by:
1. Share capital
2. Capital profit 16,50,000
3. Preference share capital 1,42,500 17,92,500
Goodwill 1,97,500
#
Calculation of pre-acquisition dividend
7000 share of Rs. 10 each - Rs.7,00,000
Dividend @ 10% -Rs.70,000.

318
WN-7: Inter company transactions:
Stock - upstream
Particulars Rs. Rs.
Aggregate balance (4,50,000+7,20,000) 1,170,000
Less: Unrealized Profits *
J Ltd. 6,000
Minority interest 2,000 8,000
Balance carried to CBS 1,162,000
Goods purchased from K Ltd. remaining unsold
Particulars Rs.
Goods purchased from K Ltd. remaining unsold (1,20,000-1,00,000)*40% 8000
J Ltd. (75%) 6000
Minority interest (25%) 2000
Bills
Particulars Bills receivable Bills payable
Aggregate balance (4,50,000+7,20,000) 1,45,000 1,60,000
Less: Inter company transactions (1,45,000) (1,45,000)
Balance carried to CBS - 15,000
WN-8: Reserve for CBS:
Particulars GeneralReserve P L
Closing balance in J Ltd. 550,000 1,000,000
Less: Pre-acquisition Dividend - (70,000)
Add: Share of proposed dividend of K Ltd. (16.5 lakhs*10%) 165,000
Less: Proposed dividend of J Ltd. @ 15% (720,000)
Add: Share of profit from K Ltd. (WN-4) 165,000 225,000
Less: Unrealized Profits (6,000)
Net for CBS 715,000 594,000
Problem - 5
On 31st
March, 1996, P Ltd. acquired 105000 shares of Q Ltd. of Rs.1200000. The Balance Sheet of Q Ltd.
on that date was as under:
1,50,000 equity shares of Rs. 10/- each fully
paid up 1500000 Fixed Assets 1050000
Pre incorporation profits 30000
Profit and Loss account 60000 Current Assets 645000
Creditors 105000
1695000 1695000
On 31st
march, 2002 the Balance Sheets of two companies were as follows:

319
Liabilities
P Ltd.
Rs.
Q Ltd.
Rs. Assets
P Ltd.
Rs.
Q Ltd.
Rs.
Equity shares of Rs. 10/-
each fully paid up(before
bonus issue) 4500000 1500000 Fixed assets 7920000 2310000
105000 equity
shares in Q Ltd.
at cost 1200000
Pre incorporation Profits 30000
General reserve 6000000 1905000 Current assets 4410000 1755000
Profit and Loss A/c 1575000 420000
Creditors 555000 210000
13530000 4065000 13530000 4065000
Directors of Q Ltd. made bonus issue on 31.03.2002 in the ratio of one equity share of Rs. 10/- each fully
paid up for every two shares held on that date.
Calculate as on 31st
March, 2002 (i) Cost of Control (ii) Minority interest (iii) Consolidated Proﬁt Loss
account in each of the following cases:
a) Before issue of bonus shares.
b) Immediately after issue of bonus shares.
It may be assumed that bonus shares were issued out of post – acquisition proﬁts by using General
reserve.
Prepare a consolidated Balance Sheet after the bonus issue.
Solution:
Consolidated Balance Sheet of P Ltd. and its subsidiary Q Ltd. as on 31.03.2002
Share Capital 4500000
Fixed Assets
(7920000+231000) 10230000
Securities premium 900000
Capital Reserve (refer A) 438000 Current assets 6165000
General reserve (WN #7 ) 6808500
Profit and Loss account 1827000
Creditors (555000 + 210000) 765000
16395000 16395000

320
Before issue of
bonus shares
After issue of
bonus shares
A. Cost of capital
a. Cost of investments 1200000 1200000
Less : P Ltd. ’s share of Q Ltd. ’s Net assets as at the
date of acquisition represented by:
(i) Share capital (1050000) (1575000)
(ii) Capital Profit (63000) (63000)
Goodwill 87000 438000
B. Minority Interest (30%)
a. Share capital (1500000 x 30%) 450000 675000
(67500 x 10)
b. Capital Profits ( WN # 4 and 6) 27000 27000
c. Revenue reserve ( WN # 4 and 6) 571500 346000
d. Revenue profits ( WN # 4 and 6) 108000 108000
e. Total 1156500 1156000
C. Consolidated Profit and Loss A/c
a. P Ltd. balance 1575000 1575000
b. Add:- Share in revenue profit from Q
( WN # 4 and 6 ) 252000 252000
e. Total 1827000 1827000
WORKING NOTES:
WN # 1: Date of acquisition – 31.03.96
WN # 2: Share holding pattern
Particulars
Number of
Shares % of Holding
a. P Ltd.
I Acquisition on 31.03.96 105000 70%
II Bonus shares 52500
III Total 157500 70%
b. Minority Interest 67500 70%
WN # 3: Analysis of proﬁts of P Ltd. – without considering bonus
a) General Reserve – closing balance - Rs. 19,05,000 – Revenue receipt.
b) Pre incorporation profit – Rs. 30000 – Capital receipt
c) Profit and Loss A/c:

321
Opening balance – Rs. 60000
Subsequent year
Profit - Rs. 360000
Closing balance - Rs. 420000
WN # 4: Apportionment of proﬁts without considering bonus
Pre Acquisition Post Acquisition
CP RR RP
a. General reserve 1905000
b. Profit and Loss A/c 60000 360000
c. Pre – incorporation profit 30000
d. Total 90000 1905000 360000
e. P Ltd. 63000 13333500 252000
f. Minority interest 27000 571500 108000
WN # 5: Analysis of P Ltd. after considering bonus issue
a) General reserve
Closing balance 1905000
Less: Bonus issue 750000
1155000 – Revenue receipt
b) Pre incorporation 30000 – Capital payment
Profit
c) Profit and Loss A/c:
Opening balance – 60000
Subsequent year
Profit 360000
Closing balance - Rs. 420000
WN # 6: Apportionment of proﬁts after considering bonus issue:
Pre Acquisition Post Acquisition
CP RR RP
a. General reserve 1155000
b. Profit and Loss A/c 60000 360000
c. Pre – incorporation profit 30000
d. Total 90000 1155000 360000
e. P Ltd. (70%) 63000 808500 252000
f. Minority interest 27000 346500 108000

322
WN # 7: Reserves for CBS
Particulars Rs.
a. Existing balance 6000000
b. Share from Q Ltd. 808500
c. Balance for CBS 6808500
6. Multiple Stages of Accounting
The Balance Sheet of X Ltd. and Y Ltd. as on 31.03.2003 are as follows:
Liabilities
X Ltd.
Rs.
Y Ltd.
Rs. Assets
X Ltd.
Rs.
Y Ltd.
Rs.
Share capital
(Equity shares of Rs.10 each) 160,000 200,000 Investments:
Profit Loss A/c 50,000 60,000 Shares in Y Ltd. 196,000 -
Creditors - 16,000 Debtors - 120,000
Stocks - 80,000
Cash at bank - 70,000
Cash in hand 14,000 6,000
210,000 276,000 210,000 276,000
Particulars of X Ltd. :
1. This company was formed on 1st
April 2002.
2. It acquired the shares of Y Ltd. as under:
Date of acquisition Number of shares Cost (Rs.)
01.04.02 8,000 1,10,000
31.07.02 6,000 86,000
3. The shares purchased on 31.07.02 are ex-dividend and ex-bonus from existing holders
4. On 31.07.02, dividend at 10% was received from Y Ltd. and was credited to Profit and Loss
account.
5. On 31.07.02, it received bonus shares from Y Ltd. in the ratio of one share on every four shares
held.
6. X Ltd. incurred an expenditure of Rs.500 per month on behalf of Y Ltd. and this was debited to the
Profit and Loss account of X Ltd. But nothing has been done in the Y Ltd.
7. The balance in the Profit and Loss account as on 31.03.03 included Rs.36000 being the net profit made
during the year
8. Dividend proposed for 2002 – 2003 at 10% was not provided for as yet.
Particulars for Y Ltd.
1. The balance in the Profit and Loss A/c as on 31.3.2003 is after the issue of bonus shares made on
31.07.02

323
2. The net profit made during the year is Rs.24,000 including Rs.6,000 received from insurance company
in settlement of the claim towards loss of stock by fire on 30.06.02 (Cost Rs. 10,800 included in opening
stock)
3. Dividend proposed for 2002 – 2003 at 10% was not provided for in the accounts.
Prepare the Consolidated Balance Sheet of X Ltd. as on 31.03.2003
Solution:
Consolidated Balance Sheet of X Ltd. and Y Ltd. as on 31st
March 2003.
Equity share capital
16,000 shares of Rs.10 each 160,000 Debtors 120,000
Capital reserve (WN 6) 1,920 Stocks 80,000
Profit Loss A/c (WN 7) 45,280 Cash at bank 70,000
Creditors 16,000 Cash in hand 20,000
Minority interest (WN 5) 50,800 -
Proposed dividend 16,000 -
Total 290,000 290,000
Working notes:
WN 1 Date of acquisition
On 01.04.02 8,000 shares
On 31.07.02 6,000 shares
On 31.07.02 Bonus shares of 2000 shares
WN 2 shareholding pattern
Particulars Number of shares % of holding
a. X Ltd.
On 01.04.02 8,000 40%
On 31.07.02 6,000 30%
On 31.07.02 2,000 80%
Total 16,000 80%
b. Minority interest 4,000 20%
WN 3 Analysis of profit
a. Profit and Loss A/c
(i) on above capital profit 34,000
(ii) balance 22,800
(a) April - July Nil
(b) Aug - March Nil
Assumption:
1. The profit is after providing for previous year dividend
2. Bonus shares are entitled for full year dividend as per articles.

324
WN 4 apportionment of profit
Particulars Pre- acquisition Post acquisition
CP RR RP
a. Profit Loss A/c 34,000
b. Minority interest (20%) 6,800
c. X Ltd. (80%) 27,200
WN 5 Minority interest
Particulars Rs.
Capital profit 6,800
Revenue profit -
proposed dividend 4,000
Net for Consolidated Balance Sheet 50,800
WN 6 Cost of control
Particulars Rs. Rs.
a. Cost of investment
Pre - acquisition dividend * (10,720) 185,280
b. X Ltd. share of net assets of Y Ltd. represented by
Paid up share capital 160,000
Capital profit (WN 4) 27,200 187,200
c. Capital reserve (a-b) 1,920
* Calculation of pre-acquisition Dividend
a. for the year 2002-2003
Dividend paid 20,000
X Ltd. share Pre - acquisition 1,600
April to July 1,120
X Ltd. share (80%) post acquisition 12,160
b. For the year 2001 - 2002, dividend received
i Holdings as on date of declaration
(Before bonus issue) 14000 shares
ii Shares eligible for dividend
(Because the shares acquired on
31.07.02 are ex-dividend basis) 8000 shares
iii Pre-acquisition
c. Total pre-acquisition dividend Rs. 10720

325
WN 7 Reserves for Consolidated Balance Sheet
Particulars Profit Loss A/c
Balance in X Ltd. 50,000
Add: Reimbursement from Y Ltd. 6,000
Share of profit from Y Ltd. -
Dividend from Y Ltd. 13,280
Pre-acquisition dividend (8,000)
Proposed dividend (16,000)
Net for Consolidated Balance Sheet 45,280
7. Foreign Subsidiaries
The draft Balance Sheets of P Ltd. and its Canada subsidiary Q Inc. as at 31st
March 2004 are:
Liabilities P (Rs.) Q ($) Assets P (Rs.) Q ($)
Equity share
capital 3,000,000 30,000 Fixed assets 1,800,000 20,000
Profit Loss
account 2,000,000 40,000 Investments in Y Inc. at cost 1,600,000
Loan 1,200,000 20,000 Stocks 1,200,000 30,000
Trade creditors 600,000 10,000 Debtors 2,400,000 60,000
Taxation 1,000,000 20,000 Cash and bank 800,000 10,000
Total 7,800,000 120,000 Total 7,800,000 120,000
P Ltd. acquired 80% of shares in Q lnc. On 1st
April, 2003, when the Proﬁt and Loss account showed
a balance of $ 23,000. When Q inc. remitted the amount to P Ltd. the exchange rate was 1$= Rs. 40. In
investments account of P Ltd. , so far, only one entry has been made on the following on the acquisition
of shares.
The exchange rate prevalent on the relevant dates were
1st
April, 2003 1$= Rs. 30
31st
March, 2004 1$= Rs. 42.
There has been no movement in the ﬁxed assets or share capital of Q inc. during the year. Prepare the
consolidated Balance Sheet of P Ltd. and its subsidiary, Q inc, at 31st
march, 2004.
Solution:
Note: as it appears that there are no transactions between holding company and subsidiary during the
year, the foreign operations are assumed as non integral.

326
Consolidated Balance Sheet of P Ltd. and its subsidiary, Q Ltd. , at 31st
March, 2004.
Share capital 3,000,000
Fixed
Assets(18,00,000+8,40,000) 2,640,000
Reserves and Surplus: Goodwill (WN-6) 304,000
Profit Loss A/c (WN 7) 2,480,000 Current assets:
Foreign currency translation
reserve (WN-4c WN-7) 576,000
Stock (12,00,000+12,60,000)
(WN-3) 246,000
Minority interest (WN 5) 588,000
Debtors
(24,00,000+25,20,000)
(WN-3) 4,920,000
Loan (12,00,000+8,40,000) 2,040,000
Cash (8,00,000+4,20,000)
(WN-3) 1,220,000
Trade creditors
(6,00,000+4,20,000) 1,020,000
Provision for Taxation
(10,00,000+8,40,000) 1,840,000
Total 11,544,000 Total 11,544,000
Working Notes:
WN-1: Date of acquisition- 01.04.2003
WN-2: Share holding pattern
In Q inc:
1. P Ltd. - 80%
2. Minority - 20%.

327
WN-3: Conversion of Balance Sheet
Liabilities Rs.
ER (per
$) INR Assets Rs. ER (per $) INR
Share capital 30,000 30 900,000
Fixed
assets 20,000 42 840,000
Profit Loss * Stocks 30,000 42 1,260,000
Pre-acquisition 20,000 30 600,000 Debtors 60,000 42 2,520,000
Post-acquisition 20,000 36 720,000 Cash 10,000 42 420,000
Loan 20,000 42 840,000
Trade creditors 10,000 42 420,000
Taxation 20,000 42 840,000
Total Total 50,40,00
ER- Exchange rate.
* Proﬁt Loss A/C:
Closing balance- $40,000
1. Opening balance : $23,000
2. Less: dividend for ; ($3000)
(2002-2003)
$20,000
Balance ($40,000-$20,000) = $20,000.
#
Foreign currency translation reserve:
Foreign currency translation reserve- Rs.7, 20,000
1. On net assets on date of investment
(Share capital+ pre-acquisition) i.e. $30,000+$20,000
Profits $ 50,000 *12 (42-30)
Rs. 6, 00,000.
2. On incremental net assets - $ 20,000
Profits- 20,000*6 (42-36)
Rs.1,20,000.
WN-4 Apportion of proﬁts of Q Ltd. :
a. Pre-acquisition – Rs.6,00,000
P Ltd. (80%) – Rs.4, 80,000

328
Minority (20%) - Rs.1, 20,000
b. Post-acquisition – Rs.7,20,000
P Ltd. (80%) – Rs. 5, 76,000
Minority (20%) – Rs.1, 44,000.
c. Foreign currency translation reserve- Rs.7,20,000
P Ltd. (80%) – Rs5, 76,000
Minority (20%) - Rs.1, 44,000.
WN-5: Minority interest (20%)
Particulars Rs.
Share capital ($30,000*Rs.30) = (9, 00,000*20%) 180,000
Capital profit (wn-4a) 120,000
Revenue profit (WN-4b) 144,000
Foreign currency translation reserve (WN-4c) 144,000
Total 588,000
WN-6: Cost of Control:
Particulars Rs. Rs.
Cost of investment 1,600,000
Less: Pre acquisition Dividend * (96,000) 1,504,000
P Ltd. share of Q Ltd. net assets as at 01.04.2003 represented by:
1. Share capital 720,000
2. Capital profit 480,000 1,200,000
Goodwill (a-b) 304,000
* Dividend received in September 2003 for 2002-2003:
80% of ($ 3,000 * 40) = Rs. 96, 000 - Pre acquisition to be transferred from P Ltd. Profit Loss A/C to cost
of investments.
WN-7: Reserve for consolidated Balance Sheet:
Particulars
Profit Loss A/C
Foreign currency
translation reserve
P Ltd. balance 2000000 -
Add: Share of post acquisition profits 576000 576000
Less: Pre acquisition Dividend (96000) -
Net for CBS 2480000 576000

329
5. Cross Holding
Problem - 8
Following are the draft Balance Sheets of two companies P Ltd. and Q Ltd. as at 31.03.96
(Rs. In Lakhs)
Liabilities
P Ltd.
Rs.
Q Ltd.
Rs. Assets
P Ltd.
Rs.
Q Ltd.
Rs.
Share capital (Rs.100 each) 6.00 3.00 Fixed assets 5.00 1.50
Profits Investments:
Capital Profit 0.80 0.85 2400 Shares in Q Ltd. 3.00 0.00
Revenue Profit 3.20 0.29 1200 Shares in P Ltd. 0.00 2.00
Creditors 1.50 0.81 Current assets:
Debtors 2.00 0.80
Stock 0.40 0.30
Cash and bank 1.10 0.35
11.50 4.95 11.50 4.95
The following adjustments were not yet made:
1. Stock worth Rs.5,000 in Q Ltd. was found to be obsolete with no value.
2. P Ltd. acquires an asset costing Rs.50,000 on 31.03.96. No effect has been given for both the purchase
and payment.
3. Prior to acquisition of shares in Q Ltd. , P Ltd. sold an asset for Rs.60,000 (original cost Rs.40,000).
The profit was included in the revenue profit.
4. Debtors of P Ltd. included a sum of Rs.50,000 owed by Q Ltd.
You are required to prepare the Consolidated Balance Sheet of both companies as on 31.03.96 after giving
effect to the above adjustments.
Solution:
Consolidated Balance Sheet of P Ltd. and it’s subsidiary Q Ltd. as on 31.03.96
Liabilities Amount Amount Assets Amount
Share capital
(6,000 shares of Rs.100 each) 6.00 Fixed assets (WN 7b) 7.00
Less: Shares held Q Ltd. 1.20 4.80 Goodwill (WN 6) 0.40
Reserves and surplus Current assets:
Capital Profit (WN 8) 0.6 Stock 0.65
Revenue Profit (WN 8) 3.04 Debtors (WN 7a) 2.30
Minority interest (WN 5) 1.05 Cash and bank 0.95
Creditors (WN 7a) 1.81
Total 11.30 Total 11.30

330
Working Notes:
WN 1 Date of acquisition – Not available
Note: It is not necessary as segregation of capital profit and revenue profit has been stated.
WN 2 Shareholding pattern
Particulars No. of shares %
a) In Q Ltd.
i) P Ltd. 2,400 80%
ii) Others 600 20%
WN 3: Rectification of profits
a. In P Ltd. :
Particulars Rs. in Lakhs
i Capital profit 0.80
Add: Transfer from revenue profit regarding sale of capital asset 0.20
Balance 1.00
ii Revenue profit 3.20
Less: Transfer to capital profit (0.20)
Balance 3.00
b. In Q Ltd. :
Particulars Rs. in Lakhs
i Capital profit 0.85
ii Revenue profit 0.29
Less: stock written off (0.05)
Balance 0.34
WN 4 : Analysis and apportionment of profits of Q Ltd.
a. Revenue profit:
Let P = P Ltd. profit and Q = Q Ltd. profit.
P = 3,00,000 + 0.8 Q
Q = 24,000 + 0.2 P
Let substitute P in Q
Q = 24000 + 0.2 {3,00,000 + 0.8B}
Q = 24,000 + 60,000 + 0.16Q
0.84 Q = 84,000
Q = Rs. 1,00,000
Minority interest = 1,00,000 * 20%
= Rs. 20,000

331
b. Capital profit:
P = 1,00,000 + 0.8 Q
Q = 85,000 + 0.2 P
Let substitute P in Q
Q = 85,000+ 0.2 (1,00,000 + 0.8B)
Q = 85,000+ 20,000+ 0.16Q
Q – 0.16Q = 1,05,000
0.84 Q = 1,05,000
Q = 1,25,000
P Ltd. (80%) - Rs.1,00,000/-
Minority (20%) - Rs.25,000/-
WN 5: Calculation of minority interest
Particulars Amount (Rs.)
Paid up share capital (20%) 60,000
Capital proﬁt (WN 4) 25,000
Revenue proﬁt (WN 4) 20,000
Total 105,000
WN 6 : Calculation of cost of control
Particulars Rs.
a. Cost of acquisition
Amount invested 3.00
Less: Pre-acquisition dividend -
Adjusted cost of acquisition 3.00
b. P Ltd. ’s share of Net assets of Q Ltd. as on date of acquisition represented by
Share capital 2.40
Capital profit (WN 4) 1.00
Total 3.40
c. Cancellation of Q Ltd. ’s investments in P Ltd.
Amount invested 2.00
Less: Proportionate share capital (1.20)
Excess paid 0.80
d. Goodwill / (Capital reserve) 0.40

332
WN 7: Cancellation of inter company transaction
a. Debtor and Creditor
P Ltd. 2.00 1.50
Q Ltd. 0.80 0.81
Total 2.80 2.31
Less: Mutual Indebtedness (0.50) (0.50)
Balance for Consolidated Balance Sheet 2.30 1.81
b. Fixed asset and cash adjustments
Particulars Fixed assets Cash bank
P Ltd. 5.00 1.10
Q Ltd. 1.50 0.35
Total 6.50 1.45
Add/(Less) : Purchase of machinery
payment thereon 0.50 (0.50)
WN 8: Reserves for Consolidated Balance Sheet
Particulars Capital profit Revenue profits
a. Opening adjusted balance
P Ltd. (WN 3) 1.00 3.00
Q Ltd. (WN 3) 0.85 0.24
b. Amount transferred to minority interest (WN 45) (0.25) (0.20)
c. Capital profit transferred to “cost of control’ (WN 6) (1.00) 0.00

Segmental
Reporting
STUDY NOTE - 4
• Concept of Segmental Reporting
• Need for Segmental Reporting
• International Scenario
• Indian Scenario
• Specific Isues Relating to Management Accountant

Segmental Reporting
334
4.1 Introduction
Segmental reporting or segment reporting or line of business reporting or product line reporting is a
dimension of corporate financial reporting due to diversification of industry activities into different
products, geographical networks and market segments, etc.
The major purpose of segment information is to assist financial statement users in analysing and
understanding the enterprise’s financial statements by permitting better assessment of the enterprise’s
past performance and future prospects.
A company wide income statement provides only a summary of overall operations; as such, it typically
does not contain enough detail to allow the manager to detect opportunities and problems that may exist
in the organization. To operate effectively, managers need more information at their disposal than is
available in a single company wide income statement.
4.2 Need for Segmental Reporting
In recent times it has become evident that many companies have grown much larger and more diversified.
The size and relative importance of diversified companies has in turn, presented many problems for the
users of accounts. Shareholders are interested in the future cash flows they may obtain from investing in a
company and the risk or uncertainty of these cash flows. They are therefore interested in the performance
of a company as a whole rather than the performance of any specific part of the company. However,
this does not mean that only consolidated information is of value to them. Both the size and uncertainty
of future cash flows are likely to be affected by many factors. Different industries have different profit
potentials, degrees and types of risk, and growth opportunities. Different rates of return on investment
and different capital needs are also likely to occur across the various segments of a business. Because of
this diversification of operations , there has been a demand for companies also to report key disaggregated
information, especially turnover and profits. Such disaggregated or segmented data is typically provided
for both geographical areas and lines of business.
Segmented information is likely to aid shareholders by allowing them to combine company specific
information with external information and so allow a more accurate assessment of both the risk and
potential for future growth.
In addition, an idea of the success of past operations can be gained by the company with others, i.e.
whether or not a company has done better than other similar companies. However, for most diversified
companies, such external yardsticks are not available. In principle, the provision of disaggregated data
may allow shareholders to compare the success of individual segments with those of other companies.
However, given the very large degree of latitude, that companies have in deciding upon what constitutes a
reportable segment, such an advantage of comparability may be more apparent than real. This is especially
the case when comparing profit measures, as not only is there discretion in the choice of segments but also
discretion in the methods used for common cost allocations and transfer pricing.
Other users often have a direct relationship not with the company as a whole, but with a part of the
company. Disaggregated data regarding the performance of that segment of the company would then be
relevant. This would apply to employees, creditors and host governments. All of those groups are likely
to be interested, therefore, not only in a company as a whole but also in that sector of a company that most
affects themselves. They will often require information that is even more disaggregated than that currently

335
provided, e.g. employees will also want information at the plant level, host governments at the individual
country level and creditors at the level of the individual subsidiary or legal entity. However, segmentally
disaggregated information will go at least some way towards meeting these information needs.
This is especially important for those groups who often lack the power to demand specific information
that is of relevance to them in particular.
It is now strongly felt that enterprises whose securities are publicly traded and other economically
significant entities should disclose, as a supplement to the traditional financial statements, certain
significant information for the industry segments and geographical segments. Past data are used for
projecting the future. Investors -both existing and potential, lenders, employees and many others want to
know the future prospects of the reporting entity, which is traditionally projected on the basis of available,
aggregated financial information. However the corporate analysts would generally agree that their efforts
to predict future earnings of a diversified company is seriously handicapped owing to company’s non
disclosure of financial information by important segments.
It is highly absurd to project earnings of a company which come from paper, chemicals, glass, food
products and steel without understanding the relative contribution of different segments. The price
earnings ratio (P/E) is an important fundamental indicator which the investors mostly watch. However,
price earnings multiples are affected by risk and prospect for future growth in earnings. These factors vary
among different industries and markets and also changes with time. Thus in the absence of segmental
information the analysts hobble around blindly. A segmental reporting system can effectively subserve
the information needs of user groups adequately.
The need for disclosure of the operations of the major segments of diversified firms and firms with
geographical or customer segmented markets arose because the differing rates of growth, profitability
and degrees of risk of various segments cannot be evaluated and analysed effectively from aggregated
data. Disaggregation of financial data is necessary to permit the prediction of future return and risk for
well informed decision making for capital investments The consolidated reports of diversified companies
could not meet the needs of investors, creditors or antitrust authorities. Consolidated data provided
becomes inadequate. By analysing segment information one may discover that the major portion of the
company’s earnings are in high risk area, or that the growth of certain segments has virtually stopped.
So users can come to know the performance of each material segment and its importance relative to
the company as a whole. Thus, the extended disclosure of segment information is necessary for proper
evaluation of management ability in a highly decentralised company, its competitive position and its
internal stability.
4.3 Arguments Against Segmental Reporting
The arguments against segmental reporting can be enumerated as below
It is generally felt that segmental revenues and expenses are not distinguishable objectively in many
cases. Revenues of a weak product line may be derived only because of the existence of a strong
product line. Also many joint costs are only separable arbitrarily.
Much of segmental results depend on the inter-departmental transfer pricing which are not always
logically established.
Various segments of an enterprise may use common resources which makes it difficult to arrive at a

Segmental Reporting
336
segment wise performance ratio.
Since the users are in no position to know the proper base for cost allocation the segment results
would be less than meaningful.
The last argument consists of the competitive implications of the firm. Some academics content that
company secret will be disclosed while others referred to the competitive hardship suffered by some
firms if segmented data is required. Suppose that Company X, a small company, has a segment
identical to one in Company Y, a huge conglomerate. Company X would have to disclose the segment
while Company Y would not because the segment is not considered material to Y’s operations.
However, considering the problems of joint allocation, often it is suggested to follow a contribution margin
approach for reporting segmental results. By this only identifiable costs are deducted from segment
revenues and gross segment margins may only be indicated. But for all practical purposes, this becomes
a useless exercise when proportion of identifiable cost is insignificant.
4.4 International Scenario
In 1967 the Accounting Principles Board issued a statement urging companies to disclose segment
information voluntarily. In 1969 the Securities Exchange Commission (SEC) required line of business
reporting in registration statements of new stock issues and in 1970 expanded its requirement to annual
reports filed on Form 10-K. In 1974 the SEC took these requirements further to include annual reports to
share holders.
The Organisation for Economic Co-operation and Development (OECD) issued a guideline for disclosure
of segmental information in 1976, inter-alia requiring the following disclosures.
a) The geographical areas where operations are carried out and the principal activities carried on therein
by the parent company and the main affiliates.
b) The operating results and sales by geographical area and the sales in major lines of business for there
enterprise as a whole.
c) Significant new capital investments by geographical areas and as far as practicable by major lines of
business for the enterprise as a whole.
d) The policies followed in respect of inter group pricing.
In 1976 The Financial Accounting Standards Board (FASB) issued SFAS 14, requiring that financial
statements prepared in conformity with GAAP contain information about
a) the company’s operations in different industries
b) the enterprise’s foreign operations and export sales, and
c) its major customers.
The information presented in this “disaggregation” of the company’s consolidated financial data must
be prepared using the same accounting principles. There is one major difference between consolidated
information and business segment information’ intercompany transactions are eliminated, but segment
information includes intercompany transactions.
SFAS 14 requires a reconciliation of segment information with the amounts in the consolidated financial

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statements to account for this difference and generally requires that segment information be presented for
the most recent three year period.
In 1996, the Canadian Institute of Chartered Accountants and the FASB issued similar Exposure Drafts
pertaining to the reporting of disaggregated information about business enterprises. The FASB’s Exposure
Draft would supersede SFAS14 and would change the way that public enterprises report disaggregated
informationintheirfinancialstatements.Ratherthantakingan“industrysegmentapproach,”theExposure
Draft takes the position that financial information should be reported on the basis that is used internally
for evaluating segment performance and deciding how to allocate resources to segments. Thus it would
require that enterprises report financial and descriptive information about their “operating segments.”
Operating segments are defined as revenue producing components of the enterprise about which separate
financial information is produced internally and that are subject to evaluation by the chief operating
decision maker in deciding how to allocate resources. The proposed Statement would require that public
business enterprise reports segment profit or loss, certain specific revenue and expense items, segment
assets and segment liabilities. It would require reconciliations of total segment revenues, total segment
profit or loss, total segment assets, and total segment liabilities to corresponding amounts in the enterprise’s
general purpose financial statements.
It would require that all public business enterprises report information about the revenues derived from
the product or services (or groups of similar products and services) of each operating segment and about
certain countries in which the operating segments earn revenues and hold assets, regardless of whether
that information is used in making operating decisions. However, enterprises would not be required to
report information that is not used internally if reporting it is impracticable.
The proposed Statement also would require that a public business enterprise report descriptive information
about the way that the operating segments were determined, the products or services provided by the
operating segments, differences between the measurements used in providing segment information and
those used in the enterprise’s financial statements, and changes in the measurement of segment information
from period to period.
IFRS
International Financial Reporting Standard 8- Operating Segments (IFRS - 8) was issued in November
2006 in place of IAS 14.
IFRS 8 sets out requirements for disclosure of information about an entity’s operating segments and
also about the entity’s products and services, the geographical areas in which it operates and its major
customers.
Main Features:
Entities are required to report financial and descriptive information about its reportable segments.
Reportable segments are operating segments or aggregations of operating segments that meet specified
criteria. Operating segments are components of an entity about which separate financial information is
available that is evaluated regularly by the chief operating decision maker in deciding how to allocate
resources and in assessing performance. Generally, financial information is required to be reported on the
same basis as used internally for evaluating operating segment performance.

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The following items are expected to be reported:
A measure of:
Operating segment profit/loss,
Segment assets/liabilities
Particular income/expense items, if these are provided to the chief operating decision maker.
Reporting also requires the reconciliation of these measures to corresponding measures in the entity’s
financial statements.
The IFRS requires an entity to report information about the revenues derived from its products or
services(or groups of similar products or services), about the countries in which it earns revenues and
holds assets, and about major customers, regardless of whether the management uses this information for
decision making or not. However, if the benefit of compiling this information does not justify the cost of
doing it, the IFRS does not require the information to be reported if the management does not use it for
decision making.
The IFRS requires descriptive information about the way the operating segments were determined, the
products and services provided by the segments, differences between measurements used in segment
reporting and the entity’s financial statements, and changes in measurement of segment amounts from
period to period.
Applicability:
An entity shall apply this IFRS 8 for annual periods beginning on or after January 1st, 2009. Earlier
application is permitted, but shall be appropriately disclosed by the entity.
Identification of segments:
An entity uses information for decision making. An entity’s decision maker is the best judge regarding
its division into segments for operation, sales, products, services, etc. Entities have specific characteristics
and vary widely on the number of products, services, departments, importance of each product in relation
to the total business volume, etc.
The decision maker is the best judge in each entity to decide what into what detailed fragments and
segments infonnation is to be presented for ideal understanding and decision making. He needs this
information to steer the entity to profitability, which is precisely the use an outsider reading the statements
is aiming at. Hence, the IFRS allows information to be compiled according to the needs of the internal
reporting requirement for business decisions. Apart from this, for the sake of uniformity, broad guidelines
are given across varying enterprises in different industries to determine what a segment should comprise
of, broadly on the basis of value, volume, location, importance, etc. The amount reported for each operating
segment is only the measure adapted by the chief operating decision maker together with an explanation
of how these measurements are made for each reportable segment.
Disclosure:
The IFRS requires an entity to disclose the following information:
a) Factors used to identify the entity’s operating segments, including the basis of organisation (for
example, whether management organises the entity around differences in products and services,

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geographical areas, regulatory environments, or a combination of factors and whether segments
have been aggregated), and
b) Types of products and services from which each reportable segment derives its revenues.
The IFRS requires an entity to disclose specified items about each reportable segment, if the specified
amounts are included in the measure of segment profit or loss and are reviewed by or otherwise regularly
provided to the chief operating decision maker.
The IFRS requires an entity to report interest revenue separately from interest expense for each reportable
segment unless a majority of the segment’s revenue are from interest and the chief operating decision
maker relies primarily on net interest revenue to assess the performance of the segment and to make
decisions on resources to be allocated to the segment.
The IFRS requires an entity, including an entity with a single reportable segment, to disclose information
for the entity as a whole about its products and services, geographical areas, and major customers. This
requirement applies, regardless of the entity’s organisation, if the information is not included as part of
the disclosures about segments.
THE IFRS 8- OPERATING SEGMENTS
Core Principle:
1. An entity shall disclose information to enable users of its financial statements to evaluate the nature and
financial effects of the business activities in which it engages and the economic environments in which it
operates.
Scope:
2. This IFRS shall apply to:
a) The separate or individual financial statements of an entity;
• Whose debt or equity instruments are traded in a public market(a domestic or foreign stock
exchange or an over-the-counter market, including local and regional markets),or
• That files, or is in the process of filing, its financial statements with a securities commission
or other regulatory organisation for the purpose of issuing any class of instruments in a
public market: and
The consolidated financial statements of a group with a parent satisfying (i) or (ii) above.
3. If an entity that is not required to apply this IFRS chooses to disclose information about segments that
does not comply with this IFRS, it shall not describe the information as segment information.
4. If a financial report contains both the consolidated financial statements of a parent that is within
the scope of this IFRS as well as the parent’s separate financial statements, segment information is
required only in the consolidated financial statements.
Operating Segments
An operating segment is a component of an entity:
a) That engages in business activities from which it may earn revenues and incur expenses
(including revenues and expenses relating to transactions with other components of the same
entity).

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b) Whose operating results are regularly reviewed by the entity’s chief operating decision maker
to make decisions about resources to be allocated to the segment and assess its performance
and,
c) For which discrete financial information is available.
An operating segment may engage in business activities for which it has yet to earn revenues, for example,
start-up operations may be operating segments before earning revenues.
5. Not every part of an entity is necessarily an operating segment or part of an operating segment. For
example, a corporate headquarters or some functional departments may not earn revenues or may
earn revenues that are only incidental to the activities of the operating segments. For the purposes of
this 1FRS, an entity’s post-employment benefit plans are not operating segments.
6. The term ‘chief operating decision maker’ identifies a function and not necessarily a manager with
a specific title. The Junction is to allocate resources and to assess the performance of the operating
systems of an entity and could therefore refer to more than a single individual.
7. An entity may make use of reports in more than one way of presentation. Also, every segment need
not have a manager, and every segment manager need not have a single segment under him. In such
cases, information may be suitably classified and aggregated for efficient use by the chief decision
maker. He will, in these cases, take one of the presentations as operating segment reports for the
purpose of this IFRS.
8. Aggregation Criteria:
9. Operating segments often exhibit similar long-term financial performance if they have similar
economic characteristics. For example, similar long-term average gross margins for two operating
systems would be expected if their economic characteristics were similar. Therefore, segments could
be aggregated if they are similar in respect of:
i) The nature of products and services
ii) The nature of production processes
iii) The type or class of customer for their products and services
iv) The methods used to distribute their products or provide their services and
10. If applicable, the nature of the regulatory environment, for example, banking, insurance or public
utilities.
11. Quantitative thresholds:
An entity shall report separately information about an operating segment that meets any of the
following quantitative thresholds:
a) Its reported revenue, including internal transfers and external sales is 10 % or more of the
combined revenue, internal and external, of all operating segments.
b) The absolute amount of its reported profit or loss is 10 % or more of the greater, in absolute
amount, of (i) the combined reported profit of all operating segments that did not report a loss
and (ii) the combined reported loss of all operating systems that reported a loss.

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c) Its assets are 10% or more of the combined assets of all operating segments.
Operating segments that do not meet any of the quantitative thresholds may be considered reportable,
and separately disclosed, if management believes that information about the segment would be useful to
users of the ﬁnancial statements.
12. An entity may combine segments not individually meeting the aforesaid quantitative criteria only if
they have similar economic characteristics,
13. Even if the quantitative threshold is not met, additional segments may be identified and reported if
the existing number of segments does not constitute at least 75 % of the total external revenue of the
entity.
14. Information about other business activities and operating segments that are not reportable shall be
combined and disclosed in an “all other segments” category separately from other reconciling items
in the reconciliations required in para 28.The sources of revenue included in this category shall be
described.
15. A segment identified as reportable in the immediately preceding period shall continue to be reportable
if the management considers it as significant, even though it now fails to meet the criteria to qualify
as a reportable segment.
16. Contrarily, if a segment is identified as reportable in the current period due to its meeting the requisite
criteria, the segment data for the immediately preceding period shall be restated along the same
comparable lines, except if the additional cost exceeds the benefits of this exercise in the eyes of the
management.
17. Segmental information on too many segments may result in too much detail. The entity should
consider whether a practical limit has been reached if the number of reportable segments exceeds
ten.
18. An entity shall report separately information about each operating segment that:
• Segments have been identified in accordance with the foregoing paragraphs and
• Segments exceed the quantitative thresholds described above.
19. Disclosure:
An entity shall disclose information to enable users of its financial statements to evaluate the nature
and financial effects of the business activities in which it engages and the economic environments in
which it operates.
To give effect to this principle, an entity shall disclose the following for each period for which an
income statement is presented:
a) Generalinformationonthefactorsusedtoformreportablesegments,forexample,whethergeographic
area, types of products or services, regulatory environment or a combination of factors and also the
type of products or services from which reportable segment derives its revenues.
b) Informationaboutreportedsegmentprofitorloss,includingspecifiedrevenuesandexpensesincluded
in reported segment profit or loss, segment assets and liabilities and the basis of measurement.

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c) Reconciliation of the above measures to corresponding entity amounts.
Information about profit or loss, assets and liabilities:
The following information shall be reported on each reportable segment if such information is reviewed
by or regularly provided to the chief operating decision maker of the entity:
a) Revenues from external customers
b) Revenues from transactions with other operating segments of the same entity
c) Interest revenue
d) Interest expense
e) Depreciation and amortisation
f) Material items of income and expenditure disclosed in accordance with IAS -1
g) The entity’s interest in the profit or loss of associates and joint ventures accounted for by the equity
method
h) Income tax expense or income
i) Material non cash items other than depreciation and amortisation
An entity shall report interest revenue separately from interest expense for each reportable segment
unless amajority of the segment’s revenues are frominterest and the chief operating decision maker relies
primarily on net revenue to assess the performance of the segment and make decisions about resources
to be allocated to the segment. In that situation, an entity may report that segment’s revenue net of its
interest expense and disclose that it has done so.
An entity shall disclose the following about each reportable segment if the specifies amounts are included
in the measure of segment assets reviewed by the chief operating decision maker or are otherwise regularly
provided to the chief operating decision maker, even if not included in the measure of segment assets:
a) The amount of investments in associates and joint ventures accounted for by the equity method,
and
b) The amounts of addition to non-current assets other than financial instruments, deferred tax assets,
post-employment benefit assets and rights arising under insurance contracts.
The amount of each segment item reported shall be the measure provided to the chief operating decision
maker for allocating resources to the segment. If the decision maker uses more than one measure, then the
one which is more consistent with the measurement principles of the entity in its financial statements shall
be used for the segment report.
At a minimum, an entity shall disclose the following:
a) The basis of accounting for any transactions between reportable segments
b) The nature of differences between the measurement of the reportable segments’ assets and liabilities
and those of the entity. Those differences could include accounting policies and policies for allocation
of jointly used assets or liabilities that are necessary for an understanding of the reported segment
information.
c) The nature of changes from prior periods in the measurement methods used to determine reported

343
segment profit or loss and the effect, if any, of thole changes on the measure of segment profit or
loss.
d) The nature and effect of any asymmetrical allocations to reportable segments. For example, an entity
may allocate depreciation expense to a segment without allocating the related depreciable asset to
the segment.
Reconciliation:
An entity shall provide reconciliation of the amounts of a reportable segment to the entity’s total, in
respect of revenues, profit or loss, assets, liabilities and every material item of information included in the
reportable segment’s report and all such reconciliation items identified separately and described.
Restatement of previously reported information:
If an entity changes the internal organisational structure so as to effect a change in constitution of reportable
segments, the segment information shall be restated to provide the corresponding information for the
earlier periods unless the costs of restating do not justify provision of such information and this fact of not
restating shall be disclosed by the entity in the year of restructuring.
Entity-wide disclosures:
The following paragraphs on information about products and services, geographical areas and major
customers shall apply to all entities subject to this IFRS including those having a single reportable segment.
Some entities’ business activities are not organised on the basis of differences in related products and
services or differences in geographical areas of operations. Such an entity’s reportable segments may
report revenues from a broad range of essentially different products and services, or more than one of its
reportable segments may provide essentially the same products and services. A similar situation may exist
for assets. Information required by the following paragraphs shall be provided only if it is not provided as
part of the reportable segment information required by this IFRS.
Information about products and services
An entity shall report the revenues from external customers for each product and service, or each group
of similar products and services, unless the information necessary is not available and the cost to develop
it would be excessive, in which case, that fact shall be disclosed. The amount of revenues reported shall be
based on the financial information used to provide the entity’s financial statements.
Information about geographical areas
a) An entity shall report the following geographical information, unless the necessary information is
not available and the cost to develop it will be excessive:
b) Revenues from external customers (i) attributed to the entity’s country of domicile and (ii) attributed
to all foreign countries in total from which the entity derives revenues. If revenues from external
customers attributed to an individual foreign country are material, those revenues shall be disclosed
separately. An entity shall disclose the basis for attributing revenues from external customers to
individual countries.
c) Non-current assets other than financial instruments, deferred tax assets, post-employment benefit
assets, and rights arising under insurance contracts under (i) and (ii) above.
The amounts reported shall be based on the financial information that is used to produce the entity’s

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financial statements. Subtotals of geographical information about groups of countries may be provided at
the option of the entity.
Information about major customers
An entity shall provide information about the extent of its reliance on its major customers. If revenues
from transactions with a single external customer amount to ten per cent or more of an entity’s total
revenues, the entity shall disclose the fact, the total amount of revenues from each such customer, and the
identity of the segment or segments reporting the revenues. The entity need not disclose the identity of a
major customer or the amount of revenues each segment reports from that customer. For the purposes of
this IFRS, a group of entities known to a reporting entity to be under common control shall be considered
a single customer, and a government (national, state, provincial, territorial, local or foreign) and entities
known to the reporting entity to be under the control of that government shall be considered a single
customer.
Transition and effective date
An entity shall apply this IFRS in its annual financial statements for periods beginning on or after 1 January
2009. Earlier application is permitted. If an entity applies this IFRS earlier to this date, it shall disclose that
fact.
4.5 The Indian Scenario
In India, disclosures of disaggregated information are required as per Schedule VI to the Companies Act,
1956. A manufacturing company is required to disclose value and quantities of opening and closing stock
of goods produced by each class of goods. Also it has to disclose quantitative information about licensed
and installed capacities and actual production by each class of goods.
Although these disclosure requirements give certain vital information to the users of accounts, they fall
short of segmental reports. It is difficult to link raw materials consumption to sales by each class of goods.
Moreover, information about direct production costs are missing. Hence it can be said that disclosure
of segmental financial information has not become popular in India and the disaggregated quantitative
and value disclosures that are presently required as per the Companies Act, 1956 are not par with the
international requirements.
4.5.1 Definitions
A business segment is a distinguishable component of an enterprise that is engaged in providing an
individual product or service or a group of related products or services and that is subject to risks and
returns that are different from those of other business segments. Factors that should be considered in
determining whether products or services are related include:
(a) the nature of the products or services;
(b) the nature of the production processes;
(c) the type or class of customers for the products or services;
(d) the methods used to distribute the products or provide the services; and
(e) if applicable, the nature of the regulatory environment, for example, banking, insurance, or public
utilities.

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A geographical segment is a distinguishable component of an enterprise that is engaged in providing
products or services within a particular economic environment and that is subject to risks and returns that
are different from those of components operating in other economic environments. Factors that should be
considered in identifying
geographical segments include:
(a) similarity of economic and political conditions;
(b) relationships between operations in different geographical areas;
(c) proximity of operations;
(d) special risks associated with operations in a particular area;
(e) exchange control regulations; and
(f) the underlying currency risks.
A reportable segment is a business segment or a geographical segment identified on the basis of foregoing
definitions for which segment information is required to be disclosed by this Statement. Enterprise revenue
is revenue from sales to external customers as
reported in the statement of profit and loss.
Segment revenue is the aggregate of
(i) the portion of enterprise revenue that is directly attributable to a segment,
(ii) the relevant portion of enterprise revenue that can be allocated on a reasonable basis to a segment,
and
(iii) revenue from transactions with other segments of the enterprise.
Segment revenue does not include:
(a) extraordinary items as defined in AS 5, Net Profit or Loss for the Period, Prior Period Items and
Changes in Accounting Policies;
(b) interest or dividend income, including interest earned on advances or loans to other segments unless
the operations of the segment are primarily of a financial nature; and
(c) gains on sales of investments or on extinguishment of debt unless the operations of the segment are
primarily of a financial nature.
Segment expense is the aggregate of
(i) the expense resulting from the operating activities of a segment that is directly attributable to the
segment, and
(ii) the relevant portion of enterprise expense that can be allocated on a reasonable basis to the segment,
including expense relating to transactions with other segments of the enterprise.
Segment expense does not include:
(a) extraordinary items as defined in AS 5, Net Profit or Loss for the Period, Prior Period Items and
Changes in Accounting Policies;

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(b) interest expense, including interest incurred on advances or loans from other segments, unless the
operations of the segment are primarily of a financial nature;
(c) losses on sales of investments or losses on extinguishment of debt unless the operations of the segment
are primarily of a financial nature;
(d) income tax expense; and
(e) general administrative expenses, head-office expenses, and other expenses that arise at the enterprise
level and relate to the enterprise as a whole. However, costs are sometimes incurred at the enterprise
level on behalf of a segment. Such costs are part of segment expense if they relate to the operating
activities of the segment and if they can be directly attributed or allocated to the segment on a
reasonable basis.
Segment result is segment revenue less segment expense.
Segment assets are those operating assets that are employed by a segment in its operating activities and
that either are directly attributable to the segment or can be allocated to the segment on a reasonable basis.
If the segment result of a segment includes interest or dividend income, its segment assets include the
related receivables, loans, investments, or other interest or dividend generating assets.
Segment assets do not include income tax assets.
Segment assets are determined after deducting related allowances/ provisions that are reported as direct
offsets in the balance sheet of the enterprise.
Segment liabilities are those operating liabilities that result from the operating activities of a segment and
that either are directly attributable to the segment or can be allocated to the segment on a reasonable basis.
If the segment result of a segment includes interest expense, its segment liabilities include the related
interest-bearing liabilities.
Segment liabilities do not include income tax liabilities.
Segment accounting policies are the accounting policies adopted for preparing and presenting the
financial statements of the enterprise as well as those accounting policies that relate specifically to segment
reporting.
Reportable Segments
A business segment or geographical segment should be identified as a reportable segment if:
(a) its revenue from sales to external customers and from transactions with other segments is 10 per cent
or more of the total revenue, external and internal, of all segments; or
(b) its segment result, whether profit or loss, is 10 per cent or more of -
(i) the combined result of all segments in profit, or
(ii) the combined result of all segments in loss,
whichever is greater in absolute amount; or
(c) its segment assets are 10 per cent or more of the total assets of all segments.
A business segment or a geographical segment which is not a reportable segment, may be designated as a

347
reportable segment despite its size at the discretion of the management of the enterprise. If that segment
is not designated as a reportable segment, it should be included as an unallocated reconciling item.
If total external revenue attributable to reportable segments constitutes less than 75 per cent of the total
enterprise revenue, additional segments should be identified as reportable segments, even if they do
not meet the 10 per cent, until at least 75 per cent of total enterprise revenue is included in reportable
segments.
4.5.2 Disclosure Requirements
An enterprise should disclose the following for each reportable segment:
(a) segment revenue, classified into segment revenue from sales to external customers and segment
revenue from transactions with other segments;
(b) segment result;
(c) total carrying amount of segment assets;
(d) total amount of segment liabilities;
(e) total cost incurred during the period to acquire segment assets that are expected to be used during
more than one period (tangible and intangible fixed assets);
(f) total amount of expense included in the segment result for depreciation and amortisation in respect
of segment assets for the period; and
(g) total amount of significant non-cash expenses, other than depreciation and amortisation in respect
of segment assets, that were included in segment expense and, therefore, deducted in measuring
segment result.
4.5.3 Accounting and Auditing Issues
Segment information includes an entities operation in different industries, its foreign operations and
export sales, and its major customers in annual financial statements that are intended to present financial
position, results of operations and cash flows in conformity with generally accepted accounting principles.
Disclosure of segment information requires the disaggregation of ‘certain significant elements of an entities
financial statements, such as revenue, operating profit or loss, identifiable assets, depreciation and capital
expenditures. The preface to the statements of Accounting Standards issued by ICAI states that -
While discharging their attest function, it will be the duty of the members of the institute to ensure that
the Accounting Standards are implemented in the presentation of financial statements covered by their
audit reports. In the event of any deviation from the standards, it will be also their duty to make adequate
disclosures in their reports so that the users of such financial statements may be aware of such deviation.
Further, AAS - 2 of ICAI on Objective and Scope of Audit of financial statement indicates as follows -
Objective of an Audit :
The objective of an audit of financial statements, prepared within a frame work of recognised accounting
policies and practices and relevant statutory requirements, if any, is to enable an auditor to express an
opinion on such financial statements.
The auditor’s opinion helps determination of the true and fair view of the financial position and operating
results of an enterprise. In the context of reporting segment wise information the auditor performing an

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audit of financial statements in accordance with the generally accepted auditing standards considers the
segmental information as other informative disclosures in relation to the financial statements taken as a
whole. Hence, it can be said that the auditors objective is to find out whether -
1. The information provided by the segments are in conformity with the generally accepted accounting
principles, and
2. The disclosures of the segment are in conformity with the disclosure provided by the enterprise as a
whole.
In the context of the above the following issues emerge -
A. Inapplicability of segment wise information and refusal of segment wise information.
Under the Indian context it is not mandatory for any company to give the breakup of the information
segment wise except that what is stated under schedule VI. Hence, unless or otherwise disclosure
requirements are made mandatory the above issue is not strictly relevant. However if it is made mandatory
it is necessary for the auditor to make out a qualification.
If the auditor is unable to reach a conclusion based on his knowledge of the entitys business or if the entity
declines to provide such information which the auditor considers necessary for reaching a conclusion the
auditor should indicate the same i.e. the limitation of his audit and qualify his opinion on the financial
statements taken as a whole.
B. Materiality and consistency.
The concept of materiality is applied by the auditor while determining the nature, timing and extent of
auditing procedures to be applied. Materiality of segmental information is analysed by relating the value
of the information to the financial statement taken as a whole. However, there may be a contradiction as
regards the materiality of a segment since, it may not depend entirely on the size. Further, it may be that
the segment may carry a different product line. In that context it may be necessary for the auditor to give a
separate report on the segment and in such a situation the materiality should be confined to the segments
only.
As per AS-1, going concern, consistency and accrual are the generally accepted fundamental accounting
assumptions. Hence, consistency is an important measure for preparing the segment wise information. As
regards segment information inconsistencies may occur due to -
1. Change in the basis of accounting for sales or transfers between segments.
2. Change in the method of allocating operating expenses.
3. Change in the method of determining the profitability.
In all the above circumstances it may be necessary for the auditor to qualify if the nature and effect of such
a change is not properly disclosed in the financial statements.
C. Plans and procedures to be adopted by auditor in evaluating the segments.
Plans :
1. Internal control system and the degree of integration.
2. Nature, size and number of the segments.

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3. The accepted accounting principles for each segment if such segments are not homogeneous.
Procedures
1. Find out as to how the segmental information is determined.
2. Analyse the basis of accounting with special reference to sales and transfers.
3. Application of analytical procedures for comparing the segments.
4. Analyse the methods of allocating operating expenses.
5. Analyse the consistency of the information provided.
D. Mis-statement or omission of an information at the segment level
In forming his opinion on the financial statements the auditor follows such procedures designed to satisfy
himself that the financial statements reflect a true and fair view of the financial position and the operating
results of the enterprise. The auditor recognizes that because of the test nature and other inherent
limitations of any system of internal control, there is an unavoidable risk that some material misstatement
may remain undiscovered.
While in many situation the discovery of a material misstatement by the management may often arise
during the conduct of the audit, such discovery is not the main object of audit nor is the auditor’s
programme of work specifically designed for such discovery.
If the audit reveals a misstatement in the segment information that is material in relation to the financial
statements taken as a while and that misstatement is not corrected, the auditor should modify his opinion
on the financial statements because of a departure from generally accepted accounting principles.
If the entity declines to include in the financial statements part or all of the segment information that the
auditor believes, based on his knowledge of the entity’s business, is required to be disclosed, the auditor
should modify his opinion on the financial statements because of the inadequate disclosure and should
describe the type of information omitted. The auditor is not required to provide the omitted information
in his report. The following is an example of an auditor’s report qualified because of an omission of
segment information.
E. The relevance of AAS - 10 and AAS - 12
In a situation where a segment happens to be a branch or a subsidiary or a division all the procedures laid
down in the above two AASs will be fully applicable.
4.6 Segmental Reporting Problems Difficulties
Depreciation accounting
Depreciation is a controllable expense. This conclusion is based on the view that the nature and the amount
of capital equipment and other fixed assets employed by a division are matters over which it has a large
degree of control, if not in the immediate sense at least in the longer view. Underlying this statement is
(he supposition that when a decision is taken to acquire or to scrap divisional fixed assets the decision
will be appropriately reflected on the debit side of the future divisional income statements through the
depreciation charge for such assets. If the depreciation charges are inappropriately calculated for reasons
unconnected with the circumstances of the division itself - and corporate tax requirements are the most

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likely cause of such inappropriate calculations - the status of depreciation as a controllable expense has to
be seriously questioned.
The appropriate charge for depreciation must depend on what the role of depreciation is presumed to
be. An operating asset bought under competitive conditions will have cost the purchaser a sum roughly
equal to the discounted present value of the future stream of benefits expected to accrue to the purchaser
from the asset. In money terms this is equivalent to the discounted present value of the assets expected
contribution to net profit.
As the asset renders services over the years the assets expectation of life diminishes, and the present ‘value
of remaining services therefore falls. Ideally depreciation reflects this periodic fall of present value.
If the time pattern of the depreciation charges for a particular asset is to match the time pattern of its
net earnings it follows that a firm with a varied collection of fixed assets should have a depreciation
policy employing many different depreciation methods, each of which is appropriate to a different type
of asset.
Each division should be allowed to chose its own depreciation method, subject only to the requirement
that it must satisfy the corporate financial executives. The policy chosen must be appropriate to the needs
of the division in the sense that it does, as accurately as possible, reflect the facts of divisional asset life
expectancies. There is no reason why all division should follow a uniform policy if there needs are not
uniform.
In selecting its depreciation methods, each division should classify assets into as many group as may be
necessary to make each group reasonably homogeneous. In the light of the expected pattern of net results
to be generated by the assets in each group the method and rate of depreciation should be chosen for each
asset group.
Division should be required to account only for fixed assets under the control. Corporate assets should
be held by a corporate division, and should not be allocated to divisions for the purpose of computing
Capital Employed by the division or for any other purposes.
Division should be given considerable autonomy in the matter of asset disposals. They should however
be required to offer surplus assets to the other divisions at the price they propose to accept from outside
purchasers prior to selling the asset outside. If corporate head quarters thinks an asset up for disposal
is work more than the division is ready to accept for it the asset should be transferred to the corporate
division at the price acceptable to the disposable division, pending final sale or other disposition.
Direct Costing: The Allocation of Income Tax to divisions:
Divisions as such do not pay income tax since tax is levied on the legal entity. Nevertheless a majority of
divisionalised companies do allocate back to each of their divisions a part of the company’s tax assessment
proportional to the share of the company’s taxable profit deemed to have been earned by each division.
This raises certain questions :
a) Is the tax allocation a controllable expense of the division?
b) Should negative tax allocation be made to divisions making losses?
c) How, if at all, should taxes be allocated to divisions, where the company chooses not to allocate
central company overheads and therefore does not report divisional net profit?

351
Tax allocated to a division typically have two sets of determinants. One is the controllable contribution
which the division make to the company’s profitability, whether the divisional profit statements ever
show that figure are not.
The other is made up of all those other items which account for the difference between this” Actual
controllable divisional profit “ and the divisions share of the company’s taxable profit. These items include
any difference between the divisions true depreciation and the depreciation actually charged on its assets
for tax purposes.
If divisional tax allocation is the resultant of two sets of forces, one controllable and other non-controllable,
at the divisional level, the net result must be declared to be non-controllable; and if the tax allocation is
non controllable, the division’s after tax profit must also be non controllable.
This means that after tax profit is not an appropriate figure to use in evaluating the performance of the
division’s management. It does not mean however that the allocation of Income tax to divisions serves
no purpose whatever following the distinction between the appraisal of the performance of a division’s
management and the appraisal of performance of its business, though a divisional tax allocation may not
be useful for the first purpose it would seem to be essential-to the second so long as it represents at least
approximately the increment in the company’s tax liability which results from the division’s operations.
This is likely to be particularly important where the company’s various divisions are not at all uniformly
placed tax wise. To use before tax profits as a basis for decisions about investment policy, say would be
sure to lead to unsound decisions.
Turning now to the treatment divisions making losses the question was raised whether they should receive
negative tax allocation. Many companies do give tax relief to loss making divisions on the ground that the
company’s tax liability is reduced by reason of a division’s loss. The rule of divisional profit independence
would seem to veto negative tax allocation to loss making divisions except to the extent that a separate
company making losses could recover taxes it had previously paid.
4.7 Specific Issues Relating to Management Accountants
TRANSFER PRICING INTERDIVISIONAL RELATIONSHIP
If a divisionalized company could arrange its affairs so that its divisions had no dealings of any kind with
each other it would have removed one of the principal complexities of divisional profit measurement.
It would also however, have lost a valuable feature of decentralisation, namely, the capacity to enjoy
the fruits of division of labour and of specialisation while simultaneously benefiting from integration
to a greater or lesser degree. The fact that a divisionalized company is more than the sum of its parts is
evidenced through the intricate pattern of interdivisional relationships, which can establish itself within
a large divisionalized company.
Whenever transactions between divisions make up ‘more than a negligible proportion of the total
transactions, it is obvious that the division’s relative profitability can be very much affected by the
formulae used for pricing interdivisional business. The more important these interdivisional transactions
become, the more dependent is the whole system of profit measurement on the system of transfer pricing.
Unfortunately, as the performance of one division becomes increasingly bound up with the affairs of other
divisions, it also becomes more doubtful whether separate profit responsibility, the hallmark of a full-

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352
fledged division continues to be feasible.An essential condition , if a division’s separate profit responsibility
is to become a reality, is that the division must be substantially independent of other divisions, both in
respect of its production facilities and marketing organization.
The apparent advantages of decentralisation through delegated profit responsibility has caused some
companies to adopt a semblance of this system where it was not appropriate, and a set of more or less
arbitrarily chosen transfer prices has been one of the investments which has made the system appear to
work.
Since transfer prices are an essential part of the profit measurement system, they must, as accurately as
possible, help management to evaluate the performance of the profit centres viewed as separate entities.
They must also motivate them to set in, a manner which is conducive to the success of the company as
a whole. There is, unfortunately, a real possibility of conflict here, for a set of transfer prices suitable
for evaluating performance may lead divisions to act contrary to the corporate interest. Contrariwies, a
set of transfer prices providing the right motivation may leave certain divisions, currently contributing
materially to corporate success, with losses, showing on their divisional income statement.
The motivating aspect of transfer prices is of primary importance. It is cleared that a system which makes
it possible for a division to add to its own profit while reducing that of the corporation as a whole, is not
to be tolerated.
A badly chosen set of transfer prices may, however do just that. e.g.: A division supplying another with
an intermediate product may be in the position of a monopolist supplier. By taking advantage of its own
position it could hold the division it suppliers up to ransom.
The parent corporation could perhaps afford to take a detached view of the situation if the amount which
the transferor division could add to its own profit merely offset the dimination in the profit of the transferee
division. But it is more than possible that the transferee division will lose more than the transferor division
can gain.
It is common to find one supplier division supplying intermediate product to two or more other divisions
which incorporate the intermediate in final products for sale to outside customers. Each of the divisions
usingtheintermediatecanestimatethenetincrementalrevenuetobeobtainedbyaddingtoitsconsumption
and processing of the intermediate for sale as a final product. These net incremental revenues can be
aggregated for all the consuming divisions. Before the right course for the supplying division and the
several consuming divisions can be determined, this aggregate net incremental revenue, the incremental
cost of the supplying division, and the competitive price at which the intermediate can be bought and sold
on the market must all be looked together. The theoretically correct course is to set the transfer price equal
to the competitive market price.
The divisions, which consume the intermediate product, will each require that quantity of it, which equates
its market price with the net incremental revenue, derived from processing the marginal unit taken. The
supplier division will wish to produce at that level which equates its incremental cost with a market price
of the intermediate.
If this level exceeds the aggregate demand of the consumer divisions, the supplier division must sell
its surplus out put on the outside market; if, on the other hand, the aggregate demand of the consumer
division exceeds the amount which the supplier division wishes to produce at the market price, then the
consumer divisions should make up their supply from external sources at that price.

353
In highly theoretical conditions, the total profit of the company would unaffected if the supplier division
did no business with the other divisions, but sold the whole of its out put on the, market, leaving the
consumer divisions to buy all their requirements out side. In real life, however such behaviour would not
be likely to leave the company’s profit unchanged. The supplier division would incur selling expenses in
making outside sales which it does not incur on inter divisional sates. It will also incur collection expenses
and bad debts.
It would probably cost the consuming division no more, on the other hand to buy from another company
than to buy from another division of their own company.
If the supplier division really does change the full market price therefore the other divisions will not be
driven by self interest to take their supplies from it; and if they do not the corporation will be poorer to
the extent of the selling expenses incurred by the supplier division in disposing of its output to outsiders.
In recognition of this fact, many companies modified the “Market price” rule for pricing interdivisional
transfers.
They deduct from the market price a margin estimated to cover either the whole, or a part, of the selling and
collection expenses and bad debts which the transferor division saves on internal transfers as compared
with outside sales.
Where the transferred product is also sold outside, a deduction from the competitive price is made for
selling expenses not incurred, to encourage divisions to buy internally. As cash discounts are not given on
payment of inter divisional invoices, these discounts are allowed for in the transfer prices.
In arriving at the maximum transfer price where transferred products are not also sold outside, no
deduction from the competitive price is made for selling expenses not incurred by the transferor division.
If this maximum price were charged, therefore there would be no incentive for the purchasing division
to buy internally rather than externally. This may involve the company in loss though there is an “escape
clause” in that the transferor division-may charge less than the maximum allowed use of the “escape
clause” would substitute a negotiated price for the market price.
If a good competitive market for the intermediate product is lacking, or if for any other reason there is not
a well-defined market for it, independent of the quantity bought or sold by the divisions of the company
themselves, then another basis of transfer pricing has to be found.
The transfer price conducive to optimal decision making in that it will lead the divisions to maximize
the corporation’s profits, is the marginal or incremental cost of the transferor division for that output at
which this marginal cost equals the transferee division’s net marginal revenue from using the transferred
products. Even when there is an outside competitive price which can be used, the marginal cost rule
still holds. The transferor division should produce up to the point where its marginal cost equals the
competitive price, so that by setting the transfer price equal to the competitive price we are also setting it
equal to the transferor division’s marginal cost for its marginal unit of output.
Transfer prices should be set equal to the marginal cost of supply, not just any output, but at one particular
equilibrium output. What this rule means is that assuming a company’s object is to maximize profit the
production policy best for it if it were organized as a single profit centre is also best if it is organised
divisionally.
If the firm were organised with a single manager in charge of both the production of the intermediate
and of its conversion into the final product, the most profitable course would be to push production to

Segmental Reporting
354
the point where the marginal cost of output equaled the marginal revenue to be obtained from it.From
the company’s point of view, this policy does not cease to be right just because the responsibility for
production divided between two or more profit centres.
Strong reinforcement for the marginal cost rule is to be found whenever a choice has to be made between
buying an intermediate needed by a division or having it made by another division and transferred-
Within a decision, “make or buy” decisions, if made rationally call for a comparison of the cost of buying
outside with the incremental cost of producing the article inside. The nature of the decision, from the
company’s point of view, is not changed simply because the intermediate would have to cross divisional
lines if made internally. The use of incremental cost as the basis of transfer pricing will enable the make
or buy decision to be made list as it would be in a non-divisionalised firm. If there is a competitive market
outside for the intermediate in which the divisions are really free to buy and sell there is no problem.
In the absence of such a market some common bases of transfer pricing - full standard cost, or full standard
cost plus a return on investment could cause a division to buy an intermediate outside because the price
was below the transfer price, even though the incremental cost of production internally in another division
would have been below the outside price. Obviously in such a situation, outside purchase would add
more to the company’s outlays than production within the company would have done.
SEGMENTAL PERFORMANCE – MEASUREMENT EVALUATION
The proper measures of performance of a segment are related to the degree of de-centralization present
and are a function of the level of the organization as a whole. Segments may take various forms such as
department or cost centre, plant or operating unit, branch or a division or a subsidiary and company.
Measures of performance can be either quantitative or qualitative. While qualitative measures may be with
reference to attributes such as quality, efficiency, safety, customer satisfaction, morale etc. quantitative
measures are confined to financial measures. Such measures often lead to assessment of the profitability
of the enterprise as well as the return on investment. In other words they are measurements concerning
revenue and capital.
One of the most crucial factors that goes with the measurement of performance is the concept of
controllability.Fromtheviewpointofaccountingandfinanceitisessentialthattheconceptofcontrollability
exists what ever be the nature of the segment. In this chapter the two most commonly used performance
measures namely -i) Return on Investments (ROI) (ii) Residual Income (RI) are discussed.
ROI is calculated by dividing operating income by average (depreciated) or beginning investment.
Accounting numbers are traditionally used to measure income and investment, so ROI is encumbered
with many of the problems that plague the determination of accounting income.
Residual income (Rl) is operating income minus an implicit interest cost on the investment. The calculation
of RI has the same accounting problems as that of ROI. ROI can be an appropriate device to measure
the performance of division managers provided the limitations of the technique are clearly understood.
However ROI probably should not be employed as the only means of evaluating performance. The
separate components of ROI must be properly defined and valued for ROI to be a useful measure. The
investment should include only these assets under the control of the division manager and the division
manager should exercise control over all revenue and expenses of the division.
Investment base is defined as assets employed less division liabilities which implies that corporate assets
are not allocated to divisions. In addition, division managers evidently exercise control over the investment

355
base because they are responsible for the acquisition of division assets. Division managers apparently are
responsible for all revenue and costs within the division because each division’s sales are separate.
A properly defined ROI may cause sub-optimum behavior if it is used as the sole criterion of divisional
performance. Emphasis on divisional ROI may result in the rejection of an investment project which has
forecasted returns in excess of the firms cost of capital if the projects return is less than the divisions present
ROI; acceptance of such a project would reduce the divisions actual ROI even though the company profits
would be benefited.
The sub optimum behavior which can result from ROI can be overcome by evaluating divisions on the
basis of their residual income.
When residual income is adopted for evaluating purposes emphasis is placed on marginal profit above
the cost of capital rather than on the rate itself. Several other performance measures might be used in
conjunction with ROI to identify components which contribute to divisional performance. Additional
measuresmayincludeprofitmargin,profitgrowth,salesgrowth,marketpenetration,productdevelopment
and management personnel development. All of these would be compared with prior years’ results and
current budgets and projections to aid the evaluation of divisional performance. While the net result
of these items may be reflected in the ROI calculations, a closer examination of these items provides
additional insight and a more comprehensive picture of performance.
Performance Measure in multi national context
Segment performance evaluation in multinational firms presents special problems. Cultural differences
across countries make the behavioral implication of performance evaluation systems unique to specific
divisions in each country. Tariff and trade restrictions make evaluation of sales and profit performance
more complicated. Changing relationships among foreign currencies and different tax laws introduce
complexities into the measurement of the income and investment base. Differential and changing tax laws
create tax incentives that vary across countries.
These problems have not been solved completely by many international firms that are struggling with
performance evaluation criteria for their multinational operations. The problems of evaluating the
performance of foreign subsidiaries are - Analysis of results - Should it be local currency or foreign
currency?
1. Management explanation of variances - in local currency or foreign currency?
2. What should be the time frame for comparative data - Plan or forecast?
4.8 Segmental Disclosure – An practical example
The following is the disclosure made by Infosys Technologies pursuant to Accounting Standard 17
– Segment Reporting
23.2.17 Segment reporting
The Infosys Group’s operations predominantly relate to providing end-to-end business solutions, that
leverage technology thereby enabling clients to enhance business performance, delivered to customers
globally operating in various industry segments. Accordingly, revenues represented along industry classes
comprise the primary basis of segmental information set out in these financial statements. Secondary
segmental reporting is performed based on the geographical location of customers.

Segmental Reporting
356
The accounting principles consistently used in the preparation of the financial statements are also
consistently applied to record income and expenditure in individual segments. These are as set out in the
note on significant accounting policies.
Industry segments at the Company are primarily financial services comprising customers providing
banking, finance and insurance services; manufacturing companies; companies in the telecommunications
and the retail industries; and others such as utilities, transportation and logistics companies.
Income and direct expenses in relation to segments is categorized based on items that are individually
identifiable to that segment, while the remainder of the costs are categorized in relation to the associated
turnover of the segment. Certain expenses such as depreciation, which form a significant component
of total expenses, are not specifically allocable to specific segments as the underlying services are used
interchangeably. The Company believes that it is not practical to provide segment disclosures relating to
those costs and expenses, and accordingly these expenses are separately disclosed as “unallocated” and
directly charged against total income.
Fixed assets used in the Company’s business or liabilities contracted have not been identified to any of
the reportable segments, as the fixed assets and services are used interchangeably between segments.
Accordingly, no disclosure relating to total segment assets and liabilities are made.
Customer relationships are driven based on the location of the respective client. North America comprises
the United States of America, Canada and Mexico; Europe includes continental Europe (both the east and
the west), Ireland and the United Kingdom; and the rest of the world comprises all other places except
those mentioned above and India.
Geographical revenues are segregated based on the location of the customer who is invoiced or in relation
to which the revenue is otherwise recognize.

357
Particual Financial
service
Manufac-
turing
Telecom Retail Others Total
Revenues 5,706 2,291 3,215 1,945 2,491 15,648
4,951 1,805 2,409 1,386 2,598 13,149
Identifiable
operating
expenses 2,426 1,028 1,401 836 1,085 6,776
2,139 767 1,096 588 1,111 5,621
Allocated
expenses 2,426 572 804 485 624 3,909
1,224 454 605 384 652 3,303
Segemental
operating income 1,856 691 1,010 624 782 4,963
1,568 584 788 450 835 4,225
Unallocable
expenses 546
469
Operating
income 4,417
3,756
Other income
(expense), net 683
373
Net profit
before taxes and
exceptional items 5100
4,129
Income taxes 630
352
Net profit after
taxes and before
exceprional items 4,470
3,777
Income on sale of
investments (net on
taxes -
6
Net profit after taxes
and exceptional
itmes 4,470
3,783
Industry Segments
Year ended March 31, 2008 and 2007: in Rs. crore

Segmental Reporting
358
Particual North
America
Europe India Rest of the
World
Total
Revenues 9,873 4,207 219 1,349 15,648
8,395 3,393 214 1,147 13149
Identifiable
operating
expenses 4,308 1,668 46 754 6,776
3,636 1,314 53 618 5,621
Allocated
expenses 2,466 1,050 56 337 3,909
2,110 853 53 276 3,303
Segemental
operating income 3,099 1,489 117 258 4,963
2,649 1,226 108 242 4,225
Unallocable
expenses 546
469
Operating
income 4,417
3,756
Other income
(expense), net 683
373
Net profit
before taxes and
exceptional items 5100
4,129
Income taxes 630
352
Net profit after
taxes and before
exceprional items 4,470
3,777
Income on sale of
investments (net on
taxes -
6
Net profit after taxes
and exceptional
itmes 4,470
3,783
Geographical Segments
Year ended March 31, 2008 and 2007: in Rs. crore

359
Problems
Accounting policy leading to a change in segment identification
1. A Manufacturer of traditional electrical and engineering goods such as switchgears, motors, etc.
each constituting a separate division has entered into new areas such as telecom, software, etc. Due
to significant change in its activity profile, it has changed its internal reporting structure to combine
the traditional products such as switchgears, switchboard and motors into one division. According
to management the earlier form of segmental reporting is no longer relevant and they plan to switch
to reporting the traditional products under one segment. The following questions are relevant:
Can this be done? If no, will we have to reconstruct segment information based on the earlier
position? If yes, would it constitute a change in segment accounting policy? In that case what are the
disclosures required?
Solution:
Whether the three traditional divisions of the company can be combined into one segment for
financial reporting, after they have been merged for internal reporting purposes? To answer this
question several factors have to be considered. These are:
Are the risks and returns to switchgear, switchboard and motors significantly different from each
other? Or can they be for all practical purposes combined into one basket of traditional engineering/
electrical goods? Factors that should be considered in determining whether products and services are
related include:
the nature of the products or services:
the nature of the production processes:
the type or class of customer for the products or services: and
the methods used to distribute the products or provide the services
A single business segment does not include products and services with significantly different risks and
returns. While there may be dissimilarities with respect to one or several of the above factors, the products
and services included in a single business segment are expected to be similar with respect to a majority of
the factors.
The predominant sources of risks affect how most enterprises are organized and managed. Therefore, the
organizational structure of an enterprise and its internal financial reporting system is normally the basis
for identifying its segments. If in the given situation, it can be demonstrated that the traditional products
faced the same risks and return situation (i.e., they are not significantly different) and that the internal
reporting has actually changed, then it should be possible to combine the three divisions for segment
reporting purposes.
Based on the analysis above, the following position would emerge:
a) Telecom and software development activities cannot be combined with the traditional product-line
(switch gear etc) and made into one segment.
b) Subject to fulfillment of definition criteria laid down in AS 17, traditional product lines can be
combined into one segment.

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360
c) Changes in identification of segments would not constitute a change in accounting policy because
there is no change in the policy parse, the policy for the current year continues to be to determine
segments based on the internal reporting structure and the guidelines set out in AS 17.
2. From the following information of a company having two primary segments, prepare a statement
classifying the same under appropriate heads.
(Rs. in lakh)
Segment Revenue A 27,050
Segment Revenue B 3,280
Inter Segment Revenue A 50
Segment Proﬁt A 4,640
B
Segment Proﬁt Loss 197
Dividend Income 285
Interest Expense 35
Tax Provision 1,675
Capital Expenditure A 1,300
Capital Expenditure B 16
Non Cash Expenses
(excluding epreciation)
Segment A 114
Segment B 16
Liabilities A 3,430
Liabilities B 770
Other Liabilities 2,200
Assets A 19,450
Assets B 2,700
Other Assets 6,550
Depreciation A 110
Depreciation B 15
Solution:
Particulars
Segment
A
Segment
B Others Eliminations Total
I Revenue:
a) External Revenue 27,050 3,280 30,330
b) Inter segment Revenue 50 -50
Total 27,100 3,280 -50 30,330
II Result: 4,640 -197 4,443

361
a) Income from Investment 285
b) Interest Expenses -35
c) Tax provision -1,675
d) Net profit 3,018
III Assets:
a) Segment assets
(directly attributable
allocated) 19,450 2,700 22,150
b) Unallocated assets 6,550
IV Liabilities
a) Segment assets
(directly attributable
allocated) 3,440 770 4,200
b) Unallocated liabilities 2,200
V Others:
a) Depreciation 110 15 125
b) Non cash expenses 114 16 130
c) Capital Expenditure 1,300 16 1,316

Development
in External
Reporting
STUDY NOTE - 5
• Brief analysis - Indian Accounting Standard and its
application
• Annual Reports - Statutory Requirements and
External Reporting

Development in External Reporting
364
5.1 Indian Accounting Standards
Accounting standard put together provides a framework of norms as to recognition, measurement and
disclosure on the part of all enterprises that follow them to ensure comparability and depiction of true
and fair view of the Financial Statements. High quality accounting standards are a prerequisite and
important for a sound Capital Market System. The surge in the cross-border capital raising and Investment
transactions demands formulation of high quality international accounting standard for financial reporting
worldwide.
The various factors that have led to difference in accounting practices comprise widely of the culture,
traditions, economic development, economic growth mode, inflation, legal system etc.
The diversity demands unification to the extent possible to develop Generally Accepted Accounting
Practices (GAAP).
Indian GAAP comprises of a set of pronouncement issued by various regulatory authorities mostly in
consultation with the ICAI. The accounting Standard i.e. Indian GAAP is supplemented by Guidance
notes, Interpretation, General Clarification and/or revision from time to time.
Until December 2006, the Accounting Standard Board (ASB) of the ICAI is entrusted to mandate by the
Council of ICAI. While forming the AS, due care is taken to International Accounting Standard (IAS) as
far as practicable in Indian context.
The Accounting Standard will apply to “General Purpose Financial statement” e.g. Balance Sheet, Profit
Loss A/c, Statement, Schedules and Notes forming Integral part, issued for use by the Shareholders,
Members, Creditors, Employees, and Public at large. AS are intended or items, which are considered
material. AS to apply prospectively unless otherwise intended.
The members of the ICAI while discharging attest functions should ensure adherence to the Mandatory
AS in the financial statements covered in the Audit Report. Deviation if any should be suitably qualified
to bring those to the knowledge of the users thereof. Various regulations also require disclosure as to the
compliance with Mandatory AS.
AS because of the very nature of these cannot override Local Regulation including the order of the
Honourable High Courts as far as these relate and contain preparation and presentation of financial
statements.
However in such cases, the ICAI will decide the extent and manner of disclosures by way of appropriate
explanatory notes classificatory in nature and need not to be treated as “Adverse Comment” in relation to
the Financial Statements.
5.1.1 Companies (Accounting Standards) Rules, 2006.
The Central Government in exercise of the powers conferred by Section 642 (1) (a) of the Companies Act,
1956 read with 211(3C) and Section 210A the Companies Act, 1956 and in consultation with the National
Advisory Committee on Accounting Standards notified the rules named “Companies (Accounting
Standards) Rules, 2006.
Criteria for classification of companies under the Companies (Accounting Standards) Rules, 2006
Small and Medium-Sized Company (SMC) as defined in Clause 2(f) of the Companies (Accounting
Standards) Rules, 2006:

365
(f) “Small and Medium Sized Company” (SMC) means, a company-
(i) whose equity or debt securities are not listed or are not in the process of listing on any stock exchange,
whether in India or outside India;
(ii) which is not a bank, financial institution or an insurance company;
(iii) whose turnover (excluding other income) does not exceed rupees fifty crore in the immediately
preceding accounting year;
(iv) which does not have borrowings (including public deposits) in excess of rupees ten crore at any time
during the immediately preceding accounting year; and
(v) which is not a holding or subsidiary company of a company which is not a small and medium-sized
company.
Explanation: Forthepurposesofclause(f),acompanyshallqualifyasaSmallandMediumSizedCompany,
if the conditions mentioned therein are satisfied as at the end of the relevant accounting period.
Non-SMCs
Companies not falling within the definition of SMC are considered as Non- SMCs.
General Instructions for Small and Medium Companies
SMCs shall follow the following instructions while complying with Accounting Standards under these
Rules:-
The SMCs that does not disclose the information in line with the exemption provided by the Rules shall
disclose the same in the following manner.
“The Company is a Small and Medium Sized Company (SMC) as defined in the General Instructions
in respect of Accounting Standards notified under the Companies Act, 1956. Accordingly, the
Company has complied with the Accounting Standards as applicable to a Small and Medium Sized
Company.”
Where a company, being an SMC, has qualified for any exemption or relaxation previously but no longer
qualifies for the relevant exemption or relaxation in the current accounting period, the relevant standards
or requirements become applicable from the current period and the figures for the corresponding period
of the previous accounting period need not be revised merely by reason of its having ceased to be an SMC.
The fact that the company was an SMC in the previous period and it had availed of the exemptions or
relaxations available to SMCs shall be disclosed in the notes to the financial statements.
If an SMC opts not to avail of the exemptions or relaxations available to an SMC in respect of any but
not all of the Accounting Standards, it shall disclose the standard(s) in respect of which it has availed the
exemption or relaxation.
If an SMC desires to disclose the information not required to be disclosed pursuant to the exemptions
or relaxations available to the SMCs, it shall disclose that information in compliance with the relevant
accounting standard.
The SMC may opt for availing certain exemptions or relaxations from compliance with the requirements
prescribed in an Accounting Standard, provided that such a partial exemption or relaxation and disclosure
shall not be permitted to mislead any person or public.

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5.1.2 Applicability of Accounting Standard to Non-corporate Entities:
Criteria for classification of Non-corporate entities for applicability of Accounting Standards
Level I Entities
Non-corporate entities which fall in any one or more of the following categories, at the end of the relevant
accounting period, are classified as Level I entities:
(i) Entities whose equity or debt securities are listed or are in the process of listing on any stock exchange,
whether in India or outside India.
(ii) Banks (including co-operative banks), financial institutions or entities carrying on insurance
business.
(iii) All commercial, industrial and business reporting entities, whose turnover (excluding other income)
exceeds rupees fifty crore in the immediately preceding accounting year.
(iv) All commercial, industrial and business reporting entities having borrowings (including public
deposits) in excess of rupees ten crore at any time during the immediately preceding accounting
year.
(v) Holding and subsidiary entities of any one of the above.
Level II Entities (SMEs)
Non-corporate entities which are not Level I entities but fall in any one or more of the following categories
are classified as Level II entities:
(i) All commercial, industrial and business reporting entities, whose turnover (excluding other income)
exceeds rupees forty lakh but does not exceed rupees fifty crore in the immediately preceding
accounting year.
(ii) All commercial, industrial and business reporting entities having borrowings (including public
deposits) in excess of rupees one crore but not in excess of rupees ten crore at any time during the
immediately preceding accounting year.
(iii) Holding and subsidiary entities of any one of the above.
Level III Entities (SMEs)
Non-corporate entities which are not covered under Level I and Level II are considered as Level III
entities.
Applicability of Accounting Standards to Non-corporate Entities (As on 1.4.2008)
(I) Accounting Standards applicable to all Non-corporate Entities in their entirety (Level I, Level II
and Level III)
AS 1 Disclosures of Accounting Policies
AS 2 Valuation of Inventories
AS 4 Contingencies and Events Occurring After the Balance Sheet Date
AS 5 Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting Policies
AS 6 Depreciation Accounting

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AS 7 Construction Contracts (revised 2002)
AS 9 Revenue Recognition
AS 10 Accounting for Fixed Assets
AS 11 The Effects of Changes in Foreign Exchange Rates (revised 2003)
AS 12 Accounting for Government Grants
AS 13 Accounting for Investments
AS 14 Accounting for Amalgamations
AS 16 Borrowing Costs
AS 22 Accounting for Taxes on Income
AS 26 Intangible Assets
(II) Exemptions or Relaxations for Non-corporate Entities falling in Level II and Level III (SMEs)
(A) Accounting Standards not applicable to Non-corporate Entities falling in Level II in their entirety:
AS 3 Cash Flow Statements
AS 17 Segment Reporting
(B) Accounting Standards not applicable to Non-corporate Entities falling in Level III in their entirety:
AS 3 Cash Flow Statements
AS 17 Segment Reporting
AS 18 Related Party Disclosures
AS 24 Discontinuing Operations
(C) Accounting Standards not applicable to all Non-corporate Entities since the relevant Regulators
require compliance with them only by certain Level I entities
(i) AS 21, Consolidated Financial Statements
(ii) AS 23, Accounting for Investments in Associates with Consolidated Financial Statements
(iii) AS 27, Financial Reporting of Interests in Joint Ventures (to the extent of requirements relating
to Consolidated Financial Statements)
(D) Accounting Standards in respect of which relaxations from certain requirements have been given to
Non-corporate Entities falling in Level II and Level III (SMEs):
(i) Accounting Standard (AS) 15, Employee Benefits (revised 2005)
As explained in the summary of the Standards.
(ii) AS 19, Leases
Certain paragraphs relating to Disclosure requirements
Level III entities.
(iii) AS 20, Earnings Per Share

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Diluted earnings per share (both including and excluding extraordinary items) is not required to
be disclosed by non-corporate entities falling in Level II and Level III and information required
by paragraph 48(ii) of AS 20 is not required to be disclosed by Level III entities if this standard
is applicable to these entities.
(iv) AS 28, Impairment of Assets
Non-corporate entities falling in Level II and Level III are allowed to measure the ‘value in use’
on the basis of reasonable estimate thereof instead of computing the value in use by present
value technique. Consequently, if a non-corporate entity falling in Level II or Level III chooses
to measure the ‘value in use’ by not using the present value technique, the relevant provisions
of AS 28, such as discount rate etc., would not be applicable to such an entity. Further, such an
entity need not disclose the information required the Standard.
(v) AS 29, Provisions, Contingent Liabilities and Contingent Assets
Disclosure Requirement as laid in the Standards are not applicable to Level II and Level III
Enterprises.
(E) AS 25, Interim Financial Reporting, does not require a non-corporate entity to present interim financial
report. It is applicable only if a non-corporate entity is required or elects to prepare and present an
interim financial report. Only certain Level I non-corporate entities are required by the concerned
regulators to present interim financial results, e.g., quarterly financial results required by the SEBI.
Therefore, the recognition and measurement requirements contained in this Standard are applicable
to those Level I non-corporate entities for preparation of interim ﬁnancial results.

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This Study Note includes
Accounting Standards - Applicability, Interpretation, Scope and Compliance
Introduction
Accounting standards are written , policy documents issued by expert accounting body or by Government
or other regulatory authorities covering the aspects of recognition, measurement, treatment, presentation
and disclosure of accounting transaction in the financial statement.
The main purpose of formulating accounting standard is to standardize the diverse accounting policies
with a view to eliminate to the extent possible the incomparability of information provided in financial
statements and add reliability to such financial statements. To discuss on whether such standards are
necessary in present days it will be beneficial to go through the advantages and disadvantages which they
are said to provide.
ADVANTAGES :
1. It provides the accountancy profession with useful working rules.
2. It assists in improving quality of work performed by accountant.
3. It strengthens the accountant’s resistance against the pressure from directors to use accounting
policy which may be suspect in that situation in which they perform their work.
4. It ensures the various users of financial statements to get complete crystal information on more
consistent basis from period to period.
5. It helps the users compare the financial statements of two or more organisaitons engaged in
same type of business operation.
DISADVANTAGES :
1. Users are likely to think that said statements prepared using accounting standard are infallible.
2. They have been derived from social pressures which may reduced freedom.
3. The working rules may be rigid or bureaucratic to some user of financial statement.
4. The more standards there are, the more costly the financial statements are to produce.
Accounting Title of Accounting Standard
Standard No.
AS-1 Disclosure of Accounting Policies
AS-2 Valuation of Inventories (Revised)
AS- 3 Cash Flow Statements (Revised)
AS-4 Contingencies and Events (Occurring after the Balance Sheet Date)
AS-5 Net Profit or Loss for the Period, Prior Period Items and Changes in Accounting
Policies (Revised)
AS-6 Depreciation Accounting
5.2 Accounting Standards

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AS-7 Construction Contracts (Revised)
AS- 8 Accounting for Research and Development (stands withdrawn after introduction of AS-
26)
AS-9 Revenue Recognition
AS-10 Accounting for Fixed Assets.
AS-11 The Effect of Changes in Foreign Exchange Rates (Revised)
AS-12 Accounting for Government Grants
AS-13 Accounting for Investments
AS-14 Accounting for Amalgamations
AS-15 Employee Beneﬁts (Revised)
AS-16 Borrowing Cost
AS-17 Segment Reporting
AS-18 Related Party Disclosures
AS-19 Leases
AS-20 Earnings Per Share
AS-21 Consolidated Financial Statements
AS-22 Accounting for Taxes on Income
AS-23 Accounting for Investment in Associates in Consolidated Financial Statements
AS-24 Discontinuing Operations
AS-25 Interim Financial Reporting
AS-26 Intangible Assets
AS-27 Financial Reporting of Interests in Joint Venture
AS-28 Impairment of Assets
AS-29 Provisions, Contingent Liabilities and Contingent Assets
AS-30 Financial Instruments: Recognition and Measurement
AS 31 Financial Instruments: Presentation
AS 32 Financial Instruments: Disclosures

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Applicability of Accounting Standards:
A three tier classiﬁcation has been framed to ensure compliance of accounting standards for reporting
enterprises.
Level I Enterprises:
Enterprises whose equity or debt securities are listed whether in India or outside India.
Enterprises which are in the process of listing their equity or debt securities as evidenced by the
Board resolution in this regard.
Banks including co-operative banks
Financial institutions
Enterprises carrying insurance business
Enterprises whose turnover exceeds Rs.50 crores
Enterprises having borrowings in excess of Rs.10 crores at any time during the accounting period.
Holding companies and subsidiaries of enterprises falling under any one of the categories mentioned
above.
Level II Enterprises:
Enterprises whose turnover exceeds Rs.40 lakhs but does not exceed Rs.50 crores.
Enterprises having borrowings in excess of Rs.1 crore but not in excess of Rs.10 crores at any time
during the accounting period.
Holding companies and subsidiaries of enterprise falling under any one of the categories mentioned
above.
Level III Enterprises:
Enterprises which are not covered under Level I and Level II.
Accounting Standard Applicability (Based on the three tier classiﬁcation)
AS1,2,4-16,22,26,28 All Enterprises
AS 3,17,18,24, Not applicable to Level II and Level III enterprises in their entirety.
AS 19,20,29
All enterprises but relaxation given to Level I and Level II enterprises
for certain disclosure requirements.
AS 21,23,27 Not applicable to Level II and Level III enterprises
AS 25 Not mandatorily applicable to Level II and Level III enterprises
AS 30,31,32
W.e.f. accounting periods commencing on or after 1-4-2009 and will be
recommendatory in nature for an initial period of two years.
It will be mandatory for on or after 1-4-2011 for all commercial, industrial and business entities except
to a Small and Medium-sized Entity.

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AS-1: DISCLOSURE OF ACCOUNTING POLICIES
This standard deals with disclosure of significant accounting policies followed in the preparation and
presentation of the financial statements and is mandatory in nature.
The accounting policies refer to the specific accounting principles adopted by the enterprise.
Proper disclosure would ensure meaningful comparison both inter/intra enterprise and also enable the
users to properly appreciate the financial statements.
Financial statements are intended to present a fair reflection of the financial position financial performance
and cash flows of an enterprise.
Areas involving different accounting policies by different enterprises are
Methods of depreciation, depletion and amortization
Treatment of expenditure during construction
Treatment of foreign currency conversion/translation, Valuation of inventories
Treatment of intangible assets
Valuation of investments
Treatment of retirement benefits
Recognition of profit on long-term contracts Valuation of fixed assets
Treatment of contingent liabilities
Factors governing the selection and application of accounting policies are:
Prudence: Prudence means making of estimates, which is required under conditions of uncertainty.
Profits are not anticipated till certain for realization, while provisions are made for all known liabilities
ascertainable or based on estimates (e.g. warranty expenses).
Substance over form: It means that transaction should be accounted for in accordance with actual
happening and economic reality of the transactions, i.e. events governed by substance and not merely
by the legal form
Materiality :
a) As to the disclosure of all material items, individually or in aggregate in the context of fair
presentation of financial statements as a whole if its omission or misstatement could influence
the economic or financial decision of the user relying upon the financial statements
b) Depends on the size of the items or errors judged in the particular circumstances of its omissions
or misstatements.
c) Is a cutoff point rather than being a primary qualitative characteristic which information must
have.
d) This is a matter of judgment, varies from one entity to another and over one period to another.
AS-1 requires that all “significant” (i.e. only accounting policy that is useful for an understanding by
the user of the financial statements) accounting policies adopted in the preparation and presentation of

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financial statements, should be disclosed by way of ‘Note in one place as the note No I (this is the basis of
the preparation of financial statements.)
Changes in Accounting Policies:
Any change in the accounting policies which has a material effect in the current period or which is
reasonably expected to have a material effect in the later period should be disclosed.
In the case of a change in accounting policies, having material effect in the current period, the amount
by which any item in the financial statements, is affected by such change should also be disclosed to the
extent as ascertainable, otherwise the fact that the effect is not (wholly or partially) ascertainable, should
be disclosed.
The following are not considered as changes in accounting policies:
a) Accounting policies adopted for events or transactions that differ in substance at present (introducing
Group Gratuity Scheme for employees in place of adhoc ex-gratia payment earlier followed.)
b) Accounting policies pertains to events or transactions which did not occur previously or that were
immaterial.
Fundamental Accounting Assumptions
Certain basic assumptions, in the preparation of financial statements are accepted and their use are
assumed, no separate disclosure is required except for noncompliance in respect of-
a) Going Concern: continuing operation in the foreseeable future and no interim necessity of liquidation
or winding’ up or reducing scale of operation.
b) Consistency: accounting policies are consistent from one period to another
c) Accrual:
i) Revenues and costs are accrued i.e. they are earned or incurred (not actually received or paid)
and recorded in the financial statements
ii) Extends to matching revenue against relevant costs.
PROBLEMS
1. The gross block of fixed assets are shown at the cost of acquisition, which includes tax, duties (net of
MODVAT and set off availed) and other identified direct expenses. Interest on borrowing to finance
the fixed assets is considered as revenue.
Answer: The policy appears to be correct.
2. Compensation payable to employees under voluntary retirement scheme has been deferred to
be written off over a period of four years as against the past practice of charging out the same on
payment/due basis. Comment.
Answer: The reason for change must be incorporated with notes to accounts.
3. Sales includes inter-departmental transfers, sales during trial run and are net of discounts.
Comment.
Answer: The policy is not as per AS-9, Revenue Recognition.

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AS-2: VALUATION OF INVENTORIES
At the outset AS -2 excludes the following though appears to be inventory in common parlance:
a) Work-in-progress in construction contract and directly related service contract (ref: AS-2), inventories
not forming part of construction work-in-progress will attract AS-2
b) Work-in-progress arising in the ordinary course of business of service providers Shares, debentures
and other financial instruments held as stock-in-trade (ref: AS-13 as Current Investments)
c) Livestock, agricultural and forest product, mineral oil/gasses as measured at net realizable value as
per trade practices at certain stage of production.
AS-2 covers inventories as an item of assets which are
a] held for sale in the ordinary course of business
b] in the process of production for such sale
c] in the form of material or supplies for the process of production or rendering of service
Inventories are valued at lower of cost or net realizable value (NRV)
a) Cost to include purchase price, conversion and other costs incurred in bringing the inventories to
their present location and condition.
An enterprise should use the same cost formula for all inventories having similar nature and use -
specific cost, FIFO, weighted average, standard cost, adjusted selling price
b) Net realizable value is the estimated selling price in the ordinary course of business reduced by the
estimated cost to bring the item in saleable condition, considered on each balance sheet date, usually
on item by item basis or under suitable group of similar or related item.
Disclosure under AS-2
a) the accounting policy adopted in measuring inventories
b) the cost formula used
c) carrying amount (value) of inventory commonly classified under Raw Material and Components,
Work in Progress, Finished goods and Stores, Spares and Loose tools.
d) Schedule-VI and AS-2 disclosure are at par.
PROBLEMS
1. Raw materials purchased at Rs.10 per kg. price of materials is on the decline. The finished goods in
which the raw material is incorporated are expected to be sold at below cost. 1,000 kgs of raw material
is in stock at the year-end. Replacement cost is Rs.8 per kg. How will you value the inventory?
Answer: As per para 24 of AS-2, on valuation of inventories, material and other supplies held for use
in the production of inventories are not written down below cost if the finished products in which
they will be incorporated are expected to be sold at or above cost. However, when there is a decline
in the price of materials and it is estimated that the cost of the finished products will exceed net
realizable value, the materials are written down to net realizable value.
Hence, the value of stock of 1,000 kgs. of raw materials will be valued at Rs.8 per kg. The finished
stock should be valued at cost or net realizable value, whichever is lower.

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2. Inventories are valued at cost except for finished goods and by products, finished goods are valued
at lower of cost of realizable values and by products are valued at realizable value. Comment on the
accounting policy.
Answer: The accounting policy followed by the company is at par with AS-2.
3. Cost of Production of product A is given below:
Raw material per unit Rs.150
Wages per unit Rs.50
Overhead per unit Rs.50
Rs.250
As on the balance sheet date the replacement cost of raw material is Rs.110 per unit. There are 100 units
of raw material on 31.3.08.
Calculate the value of closing stock of raw materials in the following conditions:
(i) If finished product is sold at Rs.275 per unit, what will be the value of closing stock of raw material?
(ii) If finished product is sold at Rs.230 per unit, what will be the value of closing stock of raw material?
Answer: (i) The realizable value of the product is more than the total cost of the product. The cost of
raw material per unit is more than the replacement cost, hence, raw materials should be valued on
actual cost.
Therefore, the value of raw materials: 100 units x Rs.150 per unit= Rs.15,000
(iii) The realizable value of the product is less than the total cost of the product. Though the cost of
raw material per unit is more than the replacement cost, hence, raw materials should be valued on
replacement cost.
Therefore, the value of raw materials: 100 units x Rs.110 per unit= Rs.11,000
AS-3 (REVISED): CASH FLOW STATEMENT
Cash Flow Statement deals with the provision of information about the historical changes in cash and
cash equivalents of an enterprise by means of a cash flow statement which classifies cash flows during the
period from operating, investing and financing activities.
Cash comprises cash on hand and demand deposits with banks.
Cash equivalents are short term, highly liquid investments that are readily convertible into known
amounts of cash and which are subject to an insignificant risk of changes in value.
Cash flows are inflows and outflows of cash and cash equivalents.
Operating activities are the principal revenue-producing activities of the enterprise and other
activities that are not investing or financing activities.
Investing activities are the acquisition and disposal of long-term assets and other investments not
included in cash equivalents.
Financingactivitiesareactivitiesthatresultinchangesinthesizeandcompositionoftheowners’capital
(including preference share capital in the case of a company) and borrowings of the enterprise.

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Methods of preparing Cash Flow Statement:
1. Direct Method: In this method major classes of gross cash receipts and gross cash payments are
disclosed.
2. Indirect Method: Under this method, the following adjustment to reported net profit or loss to be
made:
Effects of transactions of non-cash nature.
Deferrals in accruals of past or future operating receipt or payments.
Changes in current assets and liabilities
Income expenses associated with investing and financing cash flows.
PROBLEMS
1. Oriental Bank of Commerce, received a gross Rs.4,500 crores demand deposits from customers and
customers withdrawn Rs.4,000 crores of demand deposits during the financial year 2007-08. How
would you classify such cash flows?
Answer: It will be treated as an Operating activity, on net basis Rs.500 crores,inflow.
2. Consider a hypothetical example on the preparation of cash from operating activities under both
direct and indirect method of preparing cash flow statement.
Direct Method Cash Flow Statement [Paragraph 18(a)] (Rs. ’000)
Cash ﬂows from operating activities
Cash receipts from customers 33,150
Cash paid to suppliers and employees (29,600)
Cash generated from operations 3,550
Income taxes paid (1,860)
Cash ﬂow before extraordinary item 1,690
Proceeds from earthquake disaster settlement 180
Net cash from operating activities 1,870

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Indirect Method Cash Flow Statement [Paragraph 18(b)] (Rs. ’000)
Cash flows from operating activities
Net profit before taxation, and extraordinary item 3,350
Adjustments for:
Depreciation 450
Foreign exchange loss 40
Interest income (300)
Dividend income (200)
Interest expense 400
Operating profit before working capital changes 3,740
Increase in sundry debtors (500)
Decrease in inventories 1,050
Decrease in sundry creditors (740)
Cash generated from operations 3,550
Income taxes paid (1,860)
Cash flow before extraordinary item 1,690
Proceeds from earthquake disaster settlement 180
Net cash from operating activities 1,870
AS-4(REVISED): CONTINGENCIES AND EVENTS OCCURRING AFTER THE
BALANCE SHEET DATE
A contingency is a condition or situation, the ultimate outcome of which, gain or loss will be known or
determined only on the occurrence/non-occurrence of one or more uncertain future events.
For the purpose of AS-4 the meaning is restricted to condition or situation at the Balance Sheet date, the
financial effect of which is to be determined by future events which may or may not occur.
AS-4 does not deal with the following subjects, though may result in contingencies in respect of:
a) Liabilities of Life and General Insurance out of policies issued by the enterprise.
b) Obligations under retirement benefit plan/scheme
c) Commitment arising from long-term lease contract
Estimates are required to be made for the amounts to be stated in the financial statement for many ongoing
and recurring activities of an enterprise. Distinction should be made between an event that is certain and
that is uncertain.
Contingent losses depend on the outcome of the contingencies. It should be provided by way of a charge
in the statement of profit/loss

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a) if it is probable that future events will confirm after taking into account the probable recovery in this
respect, that an asset has been impaired or a liability has been incurred as at the B/S date, and
b) a reasonable estimate of the resulting loss can be estimated otherwise the existence of the contingent
loss should be disclosed in the financial statements.
Provisions for contii1gencies are not made in respect of general or unspecified business risk since they do
not relate to conditions or situations existing at the B/S date.
The disclosure requirements apply only for those contingencies or events which affect the financial
position of the enterprise to a material extent stating:
a) The nature of contingency;
b) The uncertainty which may affect the future outcome;
c) The estimate of the financial effect;
d) A statement that such an estimate cannot be made;
Contingent gains are not recognized because of uncertainty of realization; however, there is no restriction
to disclose as such in the ‘Notes to Accounts’ in a manner not likely to mislead the users of the financial
statements.
Events occurring after the B/S date or those significant events, both favourable and unfavourable that
occur between the B/S date and the date of approval of the financial statements by the appropriate
authority (e.g. Board of Directors of a company) can be of:
a) Those which provide further evidence of condition that existed at the B/S date adjusting events (e.g.
insolvency of a customer that occur after B/S date)
b) Those which are indicative of conditions that arose subsequent to the B/S date non-adjusting events
(loss due to earthquake, war)
Events occurring after the B/S date but indicative of the enterprise ceases to be a going concern (destruction
of major production plant by fire after B/S date) needs to be considered and evaluated to justify “going
concern concept” for preparation of Financial statements.
PROBLEMS
1. The assets in a factory of a limited company was damaged due to a fire break out on 15th
April. The
Loss is estimated at Rs. 50 crores out of which Rs.35 crores will be recoverable from the insurers.
Explain briefly how the loss should be treated in the final account for the previous year.
Answer: This has to be shown as a disclosure by way of note to account.
2. Board of Directors of a limited company approved the financial account for the year 2007-08 on 31st
July,2008. The following events occurred before the approval of financial statements by Board of
Directors. State how would you deal with these situations:
(a) The Board of Directors at their meeting on June 30, 2008 has recommended a dividend of 10% to
be paid to the shareholders after it is approved at the annual general meeting.
Answer: Proposed Dividend must be shown in the Balance Sheet.

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(b) A debtor, who was declared insolvent on 10th
July 2008. The total outstanding amount was Rs.2
lacs as on 31st
March,2008.
Answer: A provision for loss should be provided in the books.
A5-S (REVISED): NET PROFIT OR LOSS FOR THE PERIOD, PRIOR PERIOD ITEMS
AND CHANGES IN ACCOUNTING POLICIES.
The statement requires the classification and disclosure of extraordinary and prior period items and the
disclosure of certain items within the profit or loss from ordinary activities and also accounting treatment
for changes in the accounting estimate, and disclosure regarding changes in Accounting Policies in the
financial statement.
To ensure preparation of Profit or Loss statement on a uniform basis, in turn to enhance better comparability
of the enterprise over time and with other enterprises.
All items of income and expense, which are recognized in a period, are normally included for the
determination of the Net Profit/Loss for the period unless otherwise permitted (AS-22 exception for
deferred tax in the income tax).
Each extraordinary items, both income and expense arises from events/transactions, which are clearly
distinct from ordinary activities and not ex petted to recur frequently or regularly, should be disclosed
as apart of net profit/loss for the period in a distinct manner to understand the impact on current profit/
loss.
An event or transaction may be extraordinary for one enterprise but not for the other because of difference
between their respective ordinary activities.
Only on rare occasion does an event/transaction give rise to extraordinary items.
Ordinary activities are those undertaken as part of business of ail enterprise and related activities for
furtherance of, incidental to or arising from these activities. Frequency of occurrence is not the sole criteria
to determine extraordinary or ordinary nature.
However, when items of income or expense within profit/loss from ordinary activities are of such a size,
nature or incidence that their disclosure is relevant to explain the performance for the period the nature
and amount of such items should be disclosed separately as exceptional items (distinct from extraordinary
items) e.g.
a) write off/ write back of inventories to Net Realizable Value, provision/write back of cost of
restructuring
b) disposal of fixed asset/long term investments
c) effect of legislative changes with retrospective application
d) settlement of litigation
e) other reversal of provisions
Prior period items (income/expense) arise in the current period as a result of errors/ omissions in the
preparation of the financial statements, in one or more prior period are generally infrequent in nature and
distinct from changes in accounting estimates.

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Prior period items are normally included in the determination of net profit/loss for the current period
shown after determination of current period profit/loss. The objective is to indicate the “effect of such
items in the profit/loss. The separate disclosure is intended to show the impact on the current profit/loss.
Disclosure is made:
a) by showing the prior period items distinctively under the relevant head of income/expenditure
b) by putting under “Prior Period Adjustment A/c either in the main statement of P/L or in a schedule
containing the respective details with the net figure in the P/L A/c of current period in compliance
with schedule VI part II requirement.
Notes to the Accounts should provide detail description with impact on the current period and tax
implication arising thereof (e.g. stock valuation not correctly made in the previous period).
The use of reasonable estimate based on then available information circumstances are an essential part of
the preparation of financial statement. There may arise a need to change the estimate on the basis of new
information more experience or subsequent development. The revision in estimate does not bring the
adjustment within the definition of an extraordinary item or prior period item.
The effect of change in Accounting Estimate should be included in the determination of net profit/loss
a) in the period of change (if restricted for the period only)
b) in the period of change and future period (if the change affects both) (e.g. estimate of bad debt for (a)
and change in estimated life of a depreciable asset in terms of depreciation.
Classification as to ordinary or extraordinary as previously followed should be maintained to disclose the
effect of changes in accounting estimate for better comparability.
The nature and change in an accounting estimates having material effect in the current period or in
subsequent period should be disclosed. If quantification is not predictable such fact should also be
disclosed.
If it is difficult to distinguish between a change in Accounting Policy and change in Accounting Estimate
the change is recognized as change in Accounting Estimate with appropriate disclosure.
Example of various disclosures under AS-5
1. change in depreciation method: change in accounting policy
2. useful life reduced but no change: change in accounting estimate in depreciation method
3. arithmetical error in depreciation computation: prior period item
4. due to oversight depreciation incorrectly computed: prior period item
5. fixed asset destroyed in earth quake: extraordinary item
6. major disposal of fixed items: ordinary activity (exceptional item)
7. maintenance provision no longer required since major part of the assets no longer exist: the write-
back. if material should be disclosed as exceptional item and not as extraordinary’ or prior period
item.

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PROBLEMS
1. Mr.Pradip an employee of CCL Ltd.went on leave with a pay for 9 months on 1.1.2008 upto 30.9.2008.
His monthly pay was Rs.25,000. While preparing the financial statement on 30.6.2002 for the year
ended 31.3.08, the expense of salary of Mr.Pradip for 3 months (1.1.08 to 31.3.08) was not provided
due to omission. When Mr.Pradip joined on 1.10.08, the whole salary for 9 months was duly paid to
him.
In this case, three months salary of Rs.75,000 is prior period expense and following entry should be
passed:
Salary A/c Dr. 1,50,000
Prior period expense (Salary) A/c Dr. 75,000
To Bank A/c 2,25,000
If Mr. Pradip was terminated from service on 1.1.08 and was re-instated in service by the Court
on 30.9.08 with full pay protection(i.e. total salary was rewarded to him). As the employee was re-
instated in service as per the Court’s Order as on 1.10.2008, the following entry should be made:
Salary A/c Dr. 2,25,000
To Bank A/c 2,25,000
In such a case, there shall arise no error or omission while preparing the financial statements for the earlier
years.
AS -6 (REVISED) DEPRECIATION ACCOUNTING
Deprecation is a measure of the wearing out consumption or other loss of value of a depreciable asset
due to use efflux of time or obsolescence through technology and market changes and also includes
amortization of assets having predetermined life.
Different accounting policies are followed by different enterprises, hence disclosure is necessary to
appreciate the view presented in the financial statements.
Depreciation has a significant effect in determining and presenting financial position and operating
results.
A depreciable asset must fulfill the following criteria:
a) expected to be used for more than one accounting period
b) limited useful life
c) held for use in the production or supply of goods and services, for rental, for administrative purposes,
and not for sale in the ordinary course of business.
Specific exclusions from the scope of AS-6:
1. Forest, plantation and similar regenerative resource
2. Wasting asset, expenditure or a exploration for and extraction of minerals, oils natural gas and
similar non-regenerative resources.
3. RD expenditure

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4. Goodwill
5. Livestock
Depreciation charge for a period is usually recognized as an expense unless included in carrying amount
(e.g. depreciation of manufacturing plant is included in the cost of conversion of inventories or depreciation
of assets used for development activities may be treated as an intangible assets or capital reduced)
Useful life is either:
( a) the period over which a depreciable asset is expected to be used by the enterprise or ( b) on the basis
of production or similar units obtainable from the use of assets.
A change in depreciation method will arise in the following situation:
a) adoption is required by the statute, or
b) for compliance with the relevant AS, or
c) it is considered that the change would result in more appropriate presentation of the financial
statements
When the change is adopted, the depreciation is reworked with reference to the date of the asset put to use
by the enterprise, the deﬁciency/surplus is adjusted in the P/L A/c in the year of change given effect with
appropriate disclosure since as per AS 6. This is considered as a change in the Accounting Policy.
Change in depreciation method always applies retrospectively.
Disclosure under AS-6: The following information should be disclosed in the ﬁnancial statement
1) Historical cost/substituted cost of each class of depreciable asset
2) Total depreciation for the period with respect to (1)
3) Accumulated depreciation: Additional disclosure as part of disclosure of other accounting policies
a) Depreciation method used
b) Depreciation rate or the useful lives of the assets, if they differ from rates specified in the
governing statute If any depreciable asset is disposed of, discarded, demolished or destroyed,
the net surplus or deficiency, if material should be disclosed separately (in contrast with the
concept of Block under I.T Act ’61)
In case the depreciable assets are revalued, the depreciation should be provided as the revalued amount on
the estimate of remaining useful life of such assets. Disclosure should be made in the year of revaluation,
if the same has a material effect on the amount of depreciation.
PROBLEMS
1. Plant has useful life of 10 years. Depreciable amount of Rs.30 lakhs. The company has charged
depreciation under SLM. At the end of the 6th
year, the balance useful life was re-estimated at 8 years.
The depreciation will be charged from the 7th
year:
= 30 – (30/10) x 6 = 1.5
8

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2. B Ltd. Purchased certain plant and machinery for Rs.50 lakhs. 20% of the cost net of CENVAT credit
is the subsidy component to be realized from a State Government for establishing industry in a
backward district. Cost includes excise Rs. 8 lakhs against which CENVAT credit can be claimed.
Compute depreciable amount.
Answer: We shall have to determine the historical cost of the plant and machinery.
Purchase Price Rs.50 lakhs
Less: Specific Excise duty against which CENVAT is available Rs. 8 lakhs
Original Cost of the machinery for accounting purposes Rs. 42 lakhs
Less: Subsidy @ 20% of Rs.42 lakhs Rs. 8.4 lakhs
Depreciable Amount Rs. 33.6 lakhs
Note: As CENVAT Credit on Capital Goods can be availed upto 50% in the first year of acquisition
and the balance in the next year, an alternative treatment may also be considered.
The original cost of the plant and machinery can be taken at Rs. 50 lakhs and a sum of Rs.8.4 lakhs
can be transferred to deferred income account by way of subsidy reserve. The portion of unavailed
CENVAT Credit is also required to be reduced from cost.
AS-7(REVISED): ACCOUNTING FOR CONSTRUCTION CONTRACTS
The statement applies to accounting for construction contracts, in the financial statements of contractors,
A construction contract may be related to the construction of single asset or a number of assets closely,
interrelated or interdependent in terms of the scope of the contract.
For the purpose of this statement construction contract covers:
a) Contracts for rendering of services directly related to the construction of the asset e.g. service of
project-managers, architects etc.
b) Contracts for destruction/restoration of assets and restoration of environments following
demolition.
c) Consultancy contracts in project management, designing, computers where such contracts are related
to the construction of the asset.
d) Those long-term contracts not relating to construction of an asset.
A construction contract may be
a) a fixed-price contract with/without escalation
b) a cost-plus contract (provision for reimbursement of overhead on agreed basis in addition to fixed
price/fees)
c) a mix of both (a cost-plus contract with a minimum agreed price)
The statement usually apply to each contract separately, however, sometimes it is necessary to apply the
statement to the separately identifiable components of a single contract or to a group of contracts together
in order to reflect the substance. When a contract covers
a) Number of assets: each asset treated as separate contract when the proposal, negotiation and cost/
revenue can be identified distinctly.

384
b) Negotiated single package of interrelated identifiable with an overall profit margin performed concurrently or
continuous sequence: treated as a single contract whether a single customer or a group of customers.
c) Construction of an additional asset as the provision of the contract: treated as separate contract if there is
significant change in design, technology or transaction from original contract in terms of the scope
and/or price.
Additional asset should be treated as a separate construction contract if there is significant change in
design, technology or function from the assets covered in the original contract price.
Contract revenue comprises of
a) revenue agreed in the contract
b) variations in the scope of contract, adverse/favourable
c) incentive payment (degree of certainty and reliability)
d) penalties due to delay in execution
Contract costs comprise of
a) directly related to specific contract
b) attributable cost relating to contract activity in general and precisely allocable to the contract as
reduced by incidental income not included in contract revenue (sale of surplus material, disposal of
contract specific plants etc).
Contract cost and revenue are recognized for accounting only when the outcome of the construction
contract can be measured reliably with regard to the stage of completion of the contracts activity at its B/S
date. All expected losses should recognized as an expense for the contract.
Under the percentage completion method, contract revenue is recognized in the P/L in the accounting
period in which the work is performed and the related contract cost is shown as an expense. However,
expected excess of total contract is recognized as an expense immediately. Revenue earlier recognized or
becoming doubtful/uncollectable should be treated as an expense.
A long-term contract is subject to ﬂuctuation for various reasons in the original estimation thus likely
to affect the determination of contract results. It is necessary that an annual review of the cost already
incurred and future cost required to complete the project on schedule. While estimating the future cost
care should be taken for foreign exchange rate ﬂuctuation, labour problem, changes in material price etc.
Disclosure under AS -7 (on reporting date by an enterprise)
A) An enterprise should enclose
a) The amount of contract revenue recognized as revenue in the period
b) The methods used to determine the contract revenue recognized in the period
c) Method used to determine the stage of completion of contract in progress
B) An enterprise should disclose the following for contracts in progress at the reporting date
1. The aggregate amount of costs incurred and recognized profit less recognized losses upto
reporting date.

385
2. The amount of advance received and amount retained
C) An enterprise should present
a) Gross amount due from customer is an asset
b) Gross amount due to customer is a liability
c) Contingencies as per AS-4 (warranty cost, penalties, guarantee issued by banks against counter
indemnity of contractor)
PROBLEM
A Company undertook to pay contract for a building for Rs.40lakhs. As on 31.3.2008, it incurred it incurred
a cost of Rs.6 lakhs and expects that there will be Rs.36 lakhs more for completing the building. It has
received Rs.4 lakhs as progress payment. What is the degree of completion?
Percentage of Completion = Cost to date x 100
Cumulative cost incurred + Estimated cost to complete
= 6/(6 + 36) x 100 = 14.28%
AS-8 ACCOUNTING FOR RESEARCH DEVELOPMENT
(STANDS WITHDRAWN ON INTRODUCTION OF AS-26 INTANGIBLE ASSETS)
AS-9 REVENUE RECOGNITION
The statement covers the recognition of revenue arising in the course of ordinary activities. of the enterprise
from
a) sale of goods
b) rendering of service
c) outsourcing of resources yielding interest, royalties and dividend Specific exclusion from the standard
pertains to:
a) construction contracts
b) lease/hire purchase agreement
c) govt. grants/subsidies
d) insurance contract of insurance companies
Essential criterion for recognition for revenue from ordinary activities as aforesaid is that the consideration
is reasonably determinable even though the payments are made by installments. In the event of uncertainty,
the recognition is postponed and considered as revenue of the period in which it is properly recognized.
The standard requires, in addition to the AS- I, that an enterprise should also disclose the circumstances in
which revenue recognition has been postponed pending resolution of significant uncertainties.
NOTE:
Revenue include the gross inflow of economic benefits only accrued to an enterprise on its own e.g.
sales tax, service tax, VAT etc. do not accrue to the enterprise and thus not considered as revenue under
IAS-18 and US GAAP. Practices vary in India and tend to show larger gross turnover for the enterprise

386
(incidentally section 145A of the Income Tax Act ’61 require purchase, inventory and turnover inclusive
of Tax, duty and cess).
ICAI recommends disclosure in the manner :
Turnover (gross) xxx
Less Excise duty xxx
Net Turnover xxx
PROBLEMS
1. AB Ltd. Seeks you advise about the treatment of the following in the final statement of accounts for
the year ended 31st
March 2008:
“ As a result of a recent announced price revision, granted by the Government of India with effect
from 1st
July,2007, the company stands to receive Rs. 6 lakhs from its customers in respect of sales
made in 2007-08”
Answer: The company is preparing the financial statements for the year ended 31.3.08. Due to price
revision granted by the Government of India, the company has to receive an additional sales revenue
of Rs. 6 lakhs in respect of sales made during the year 2007-08.
As per AS-9, where uncertainty exists in collection of revenue, its recognition is postponed to the
extent of uncertainty involved and it should be recognized as revenue only when it is reasonably
certain about its collection.
In view of the above statement, if there is no uncertainty exists as to the collect ability of Rs. 6 lakhs,
it should be recognized as revenue in the financial statements for the year ended 31.3.08.
2. Advise D Ltd.about the treatment of the following in the final statement of accounts for the year
ended 31st
March, 2008.
A claim lodged with the Railways in March,2006 for loss of goods of Rs.5 lakhs had been passed for
payment in March,2008 for Rs.4 lakhs. No entry was passed in the books of the company, when the
claim was lodged.
Answer: The financial statements of the company are prepared for the year ended 31.3.08.
There was a loss of goods of Rs.5 lakhs in 2005-06 and the claim was lodged in March 2006 with
the Railway authorities. No entry was passed in the books of the company when the claim was
lodged and the said treatment was correct in view of AS-9, which states that if uncertainty exists as
to collectability, the revenue recognition should be postponed.
Since, the claim is passed for payment of Rs.4 lakhs in March,2008, it should be recognized as revenue
in the financial statements prepared for the year ended 31.3.08.
AsperAS-5Revised,theclaimamountreceivedwillnotbetreatedasextraordinaryitem.AS-5Revised
further states that when items of income and expense within profit 0r loss from ordinary activities
are of such size, nature, or incidence that their disclosure is relevant to explain the performance of
the enterprise for the period, the nature and amount of such items should be disclosed separately.
Accordingly, the nature and amount of this item should be disclosed separately.

387
AS-10: ACCOUNTING FOR FIXED ASSETS
Fixed assets for the purpose of the statement are those held by an enterprise with the intention of being
used for the purpose of producing or providing goods or services and not held for sale in the normal
course of business and applies to financial statements prepared on historical cost/substituted cost basis.
The following items need special consideration and normally not covered under this statement. unless the
expenditure on individual items are separable and identified.
a) forest plantation and regenerative natural resources
b) wasting assets and non-generative resources (mineral rights. exploration of mineral, oil and natural
gas)
c) expenditure on real estate development
d) livestock
Apart from direct cost, all directly attributable cost to bring the asset concerned to their working condition
for intended use also forms the part of fixed asset.
Subsequent expenditure after the initial capitalization that increases the future benefits from the existing
assets beyond the previously assessed standard of performance (e.g. increase in” quality of output,
substantial reduction in operating cost) is capitalized to form the gross book value.
Financial statements are normally prepared on the basis of historical cost but sometimes a part or all
of fixed assets, are restated (revalued) and substituted for historical cost. The commonly accepted and
preferred method of restating is by appraisal by a competent valuer.
As per Schedule VI, every B/S subsequent to revaluation shall disclose the increased figure with the
date of increase in place of the original cost for the first 5(five) years, but the fact of such revaluation will
continue to be disclosed till such time such assets appear in the B/S.
Revaluation is made for an entire class of assets or the selection of assets on a systematic basis (fact of
which should be appropriately stated).
An increase in net book value arising on revaluation of fixed assets should be credited to “Owner’s Fund”
under “Revaluation Reserve” unless the decrease on any previously revaluation recorded as a change in
P/L A/c or “Revaluation Reserve” if increase in previous occasion was credited thereto.
All material items retired from active use and not disposed off should be stated at the lower of net book
value or net realizable value as a separate item in the Schedule of Fixed Assets.
Depreciation as per AS-6 should be charged on the total value of fixed assets including revalued portion.
Disclosure in addition to AS-1 and AS-6, should be made under AS-l0 in the following lines:
a) Gross and net book value of fixed assets at the beginning and end of an accounting period with
additions, disposals, acquisitions and other movements.
b) Expenditures incurred on account of fixed assets in the course of constructional acquisition
c) Revalued amounts substituted for historical cost, the basis of selection for revaluation, the method
adopted, the year of appraisal, involvement of external valuer.
d) The revalued amounts of each class of fixed assets are presented in the B/S separately without netting
off the result of revaluation of various classes of fixed assets.

388
PROBLEMS
1. A company has scrapped a semi-automatic part of a machine(not written off) and replaced with a
more expensive fully automatic part, which has doubled the output of the machine. At the same time
the machine was moved to more suitable place in the factory, which involved the building of new
foundation in addition to the cost of dismantling and re-erection. The company wants to charge the
whole expenditure to revenue. As an auditor, what would you do in this situation?
Answer: If the subsequent expenditure increases the expected future benefits from the asset beyond
its pre-assessed standard of performance then as per AS-10 it should be capitalized. Otherwise, it
should be treated as an expense. In this case, the replacement of semi-automatic part with a fully
automatic part has doubled the output of the machine thus, it has increased future benefits beyond
the machines pre-assessed standard performance, hence this expenditure should be capitalized as
part of cost of the machine. However, the expenses for shifting the machine and building of a new
foundation in addition to the cost of dismantling and re-erection do not contribute to any new future
benefits from the existing asset. They only serve to maintain performance of the machine. Hence, this
cost should be charged to revenue.
2. A publishing company undertook repair and overhauling of the machinery at a cost of Rs.5 lakhs to
maintain them in good condition and capitalized the amount, as it is more than 25% of the original
cost of the machinery. Advice.
Answer: The size of the expenditure is not the criteria to decide whether subsequent expenditure
should be capitalized. The important question is whether the expenditure increases the future benefits
from the asset beyond its pre-assessed standard of performance as per AS-10. Only then it should
capitalize. Since, in this case, only the benefits are maintained at existing level, the expenditure should
not be capitalized.
3. Hero Ltd. purchased a machine of Rs.50 lakhs including excise duty of Rs. 10 lakhs. The excise
duty is Cenvatable under the excise laws. The enterprise intends to avail CENVAT credit and it is
reasonably certain to utilize the same with reasonable time. How should the excise duty of Rs.10
lakhs be treated?
Answer: The following journal entries should be recorded:
In the year of acquisition: (Rs. Lakhs)
CENVAT Credit Receivable A/c Dr. 5
CENVAT Credit Deferred A/c Dr. 5
To Supplier’s A/c 50
In the next year:
CENVAT Credit Receivable A/c Dr. 5
To CENVAT Credit Deferred A/c 5
4. A company purchased a machinery in the year 2005-06 for Rs.90 lakhs. A balance of Rs. 10 lakhs is
still payable to the suppliers for the same. The supplier waived off the balance amount during the
financial year 2007-08. The company treated it as income and credited to profit and loss account
during 2007-08. whether accounting treatment of the company is correct?

389
Answer: As per para 9.1 of AS-10, the cost of fixed assets may undergo changes subsequent to its
acquisition or construction on account of exchange fluctuation, price adjustments, changes in duties
or similar factors. Considering para 9.1 the treatment done by the company is not correct. Rs.10 lakhs
should be deducted from the cost of the fixed assets.
5. ZLtd.purchasedamachinecostingRs.5lakhsforitsmanufacturingoperationsandpaidtransportation
costs Rs.80,000. Z Ltd. spent an additional amount of Rs.50,000 for testing and preparing the machine
for use. What amount should Z Ltd. record as the cost of the machine?
Answer: As per Para 20 of AS-10, the cost of the fixed asset should comprise its purchase price and
any attributable cost of bringing the asset to its working condition for its intended use. In this case, the
cost of machinery includes all expenditures incurred in acquiring the asset and preparing it for use.
Cost includes the purchase price, freight and handling charges, insurance cost on the machine while
in transit, cost of special foundations, and costs of assembling, installation and testing. Therefore, the
cost to be recorded is Rs.6,30,000(= 5,00,000 + 80,000 + 50,000)
AS-11: THE EFFECTS OF CHANGES IN FOREIGN EXCHANGE RATES
The statement applies mandatorily in respect of:
a) Accounting for transaction in foreign currencies
b) Translating the financial statements of foreign branches for inclusion in the financial statements of
the reporting enterprise.
A transaction in a foreign currency is recorded in the financial records of an enterprise normally at the
rate
a) On the date of transaction i.e. spot rate,
b) Approximate actual rate i.e. averaging the rates during the week/month in which transactions occur
if there is no significant fluctuations.
c) Weighted average in the above line.
However, for interrelated transaction (by virtue of being set off against receivables and payables) it is
translated with reference to the net amount on the date of transaction.
After initial recognition, the exchange difference on the reporting date of financial statement should be
treated as under:
a) Monetary items like foreign currency balance, receivables, payables, loans at closing rate (in case of
restriction or remittance other than temporary or when the closing rate is unrealistic, it is reported at
the rate likely to be realized).
b) Non-monetary items like fixed assets, which are recorded at historical cost, should be made at the
rate on the date of transaction.
c) Non-monetary items other than fixed assets are carried at fair value or net realizable value on the
date which they are determined i.e. B/S date (inventories, investments in equity-shares).
Exchange difference on repayment of liabilities incurred for acquiring fixed assets should be adjusted in
the carrying amount of fixed assets on reporting date. The same concept applies to revaluation as well
but in case such adjustment on revaluation should result into showing the actual book value of the fixed

390
assets/ or class of, exceeding the recoverable amount, the remaining amount of the increase in liability
should be debited to Revaluation Reserve or P/L Statement in case of inadequacy/ absence of Revaluation
Reserve.
Except as stated above (ﬁxed assets) other exchange difference should be recognized as income or expense
in the period in which they arise or spread over to pertaining accounting period.
Depreciation as per AS-6 should be provided on the unamortised carrying amount of depreciable assets
(after taking into account the effect of exchange difference).
Disclosure under AS -11: An enterprise should disclose:
a) The amount of exchange difference included in the net profit or loss for the period.
b) The amount of exchange difference adjusted in the carrying amount of fixed assets during the
accounting period.
c) The amount of exchange difference in respect of forward contracts to be recognized in the profit/loss
for one or more subsequent accounting period.
d) Foreign currency risk management policy.
PROBLEMS
1. Exchange Rate
Goods purchased on 24.3.07 of US $1,00,000 Rs.46.60
Exchange rate on 31.3.2007 Rs.47.00
Date of actual payment 5.6.08 Rs.47.50
Calculate the loss/gain for the financial years 2006-07 and 2007-08.
Answer: As per AS-11, all foreign currency transactions should be recorded by applying the exchange
rate at the date of transaction. Therefore, goods purchased on 24.3.07 and corr sponding creditor
would be recorded at Rs.46.60
= 1,00,000 x 46.60 = 46,60,000
As per AS-11, at the balance sheet date all monetary items should be reported using the closing rate.
Therefore, the creditors of US $1,00,000 outstanding on 31.3.07 will be reported as:
1,00,000 x 47.00= 47,00,000.
Exchange loss Rs. 40,000(=47,00,000 – 46,60,000) should be debited in profit and loss account for 2006-
07.
As per AS-11, exchange difference on settlement on monetary items should be transferred to profit
and loss account as gain or loss thereof:
1,00,000 x 47.50 = 47,50,000 -47,00,000 = Rs.50,000 should be debited to profit or loss for the year 2007-
08.
2. Z Ltd. acquired a machine on 1.4.2006 costing US $ 1,00,000. The suppliers agreed to the follwing
terms of payment:

391
1.4.2006 : down payment 50%
1.4.2007 : 25%
1.4.2008 : 25%
The company depreciates machinery @ 10% on the Straight Line Method. The rate of exchange is
steady at US $ 1= Rs.40 upto 30.9.2007. On 1.10.07, due to an official revaluation of rates, the exchange
rate is adjusted to US $ 1= Rs.48.
Show the extracts of the relevant entries in the Profit and Loss Account for the year ending 31st
March, 2008 and the Balance Sheet as on that date, showing such workings as necessary.
Working Notes:
2006-07:
1. Original Cost of the machine = $1,00,000 x Rs.40 = Rs.40,00,000
2. Depreciation (SLM) @ 10% = Rs.4,00,000
2007-08:
1. Original Cost of the machine upto 30/9/2007 = Rs.40,00,000
2. Revised cost of the machine as on 1.10.2007
Due to official revaluation of exchange rates, the US $ 1 = Rs.48. There is a foreign exchange loss of Rs. 8 for
each dollar liability. The total loss on foreign currency fluctuation was $25,000 x Rs.8 = Rs.2,00,000. This
has to be added to the original cost of the machine. Therefore, revised cost of the machine as on 1.10.2007
is Rs.42,00,000 (i.e. Rs.40,00,000 + Rs.2,00,000)
The revised cost of the machine as on 1.10.2007 : Rs.
Original Cost on 1.4.2006 40,00,000
Less: Depreciation:
1.4.2006 to 31.3.2007 4,00,000
1.4.2007 to 30.9.2007 2,00,000 6,00,000
34,00,000
Add: Loss on foreign exchange fluctuation as on 1.10.2007 2,00,000
36,00,000
Depreciation:
1.4.2007 to 30.9.2007 (40,00,000 x 10/100 x 6/12) 2,00,000
1.10.2007 to 31.3.2008 ( 36,00,000 x 6
8.5 x 12) 2,11,765
Total Depreciation for the year 2007-08 4,11,765
Note: As per AS-6 Revised, ‘Depreciation Accounting’, in case of change in historical cost due to foreign
exchange fluctuation, depreciation on the revised unamortized depreciable amount should be provided

392
prospectively over the residual life of the asset. In this case, the residual life is 8.5 years.
Profit and Loss Account (extract)
for the year ended 31st
March, 2008
To Depreciation on Machinery 4,11,765
Balance Sheet (extract) as at 31st
March,2008
Current Liabilities 12,00,000 Fixed Assets
Creditors for Supply
of Machinery
Machinery (at cost) 40,00,000
Add: Adj.for foreign
Exchange fluctuation 2,00,000
42,00,000
Less: Accumulated
Depreciation 8,11,765
33,88,235
AS -12: ACCOUNTING FOR GOVERNMENT GRANTS
Government refers to Union/State, Govt. Agencies and similar bodies - Local, National or International.
Grants also include subsidies, cash incentive, and duty drawback either in cash or kind/benefits to an
enterprise on recognition of compliance in the past or future compliance with condition attached to it.
The accounting for the grant should be appropriate to reveal the extent of benefit accrued to the enterprise
during the reporting period.
For the purpose of the statement, following are not dealt with.
a) Effects of changing prices or in supplementary information
b) Government assistance other than grants.
c) Ownership participation by government.
In order to recognize the income there should be conclusive evidence that conditions attached to the
grant have been or will be fulfilled to account for such earned benefits estimated on a prudent basis, even
though the actual amount may be finally settled/received after the accounting period. Mere receipt would
not suffice for income recognition.
AS-4 (contingencies etc) and AS-5 (Prior period etc) would be applicable as the case may be.
The accounting for Govt. grants should be based on the nature of the relevant grant:
a) In the nature of promoter’s contribution as shareholder’s fund (capital approach)

393
b) Otherwise as Income Approach to match with related cost recognizing AS-1 accrual concept
disclosure.
Government grants in the form of non-monetary assets e.g. land or other resources is accounted for at the
acquisition cost or recorded at nominal value if it is given free of cost.
Grants received specifically for fixed asset is disclosed in the financial statement either
a) by way of deduction from the gross block of the asset concerned, thus grant is recognized in P/L
Account through reduced depreciation (in case of funding of specific asset Cost entirely, the asset
should be stated at a nominal value in B/S); or
b) the grant treated as deferred revenue income and charged off on a systematic and rational basis over
the useful life of the asset, until appropriated disclosed as “Deferred Govt. grant under Reserve and
Surplus in the B/S (grants relating to depreciable assets should be credited to Capital Reserve and
suitably credited to P/L Account to offset the cost charged to income).
a) the accounting policy, method of presentation in the financial statements.
b) the nature and extent of Govt. grants recognized in the financial statements, including grants of non-
monetary assets given at a concessional rate or free of cost.
PROBLEMS
1. Z Ltd. has set up its business in designated backward area which entitles it to receive as per a public
scheme announced by the Government of India, a subsidy of 25% of the cost of investment. Having
fulfilled the conditions laid down under the scheme, the company on its investment of Rs.100 lakhs
in capital assets during its accounting year ending on 31st
March,2008, received a subsidy of Rs.25
lakhs in January,2008 from the Government of India. The Accountant of the company would like to
record the receipt as an item of revenue and to reduce the losses on the Profit and Loss Account for
the year ended 31st
March,2008. Is his action justified?
Answer: As per AS-12, the Government grants related to depreciable fixed assets to be treated as
deferred income which should be recognized in the Profit and Loss Account on a systematic and
rational basis over the useful life of the asset. Such grants should be allocated to income over the
periods and in proportions in which depreciation on those assets is charged.
The company has received Rs.25 lakhs subsidy for investment in capital assets which are depreciable
in nature. In view of the provisions under AS-12, the subsidy amount Rs.25 lakhs received should not
be credited to the Profit and Loss Account for the year ended 31st
March,2008. the subsidy should be
recognized and credited to the Profit and Loss Account in the proportion of depreciation charge over
the life of the subsidized assets.
2. Hero Ltd. belongs to the engineering industry. The Chief Accountant has prepared the draft
accounts,taking note of the mandatory accounting standards.
“The company purchased on 1.4.2007 a special purpose machinery for Rs.50 lakhs. It received a
Central Government grant for 20% of the price. The machine has an effective life of 5 years”.
Answer: AS-12 prescribes two methods in accounting treatment of Government grants for specific
fixed assets.

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Method I: Government grants related to depreciable fixed assets to be treated as deferred income
which is to be recognized in the Profit and Loss Account in proportion in which depreciation on those
assets is charged over the useful life of the asset. The deferred income pending its apportionment to
Profit and Loss Account to be disclosed in the balance sheet separately with a suitable description,e.g.
Deferred Government Grants, to be shown after “Reserves Surplus” but before “ Secured Loans”.
AS-13: ACCOUNTING FOR INVESTMENTS
The Standard deals with accounting for investments in the ﬁnancial statements of an enterprise and
relevant disclosure requirement. Investments are assets held for earning income, capital appreciation
or for other beneﬁts to the investing enterprise, obviously investments held as ‘stock-in-trade’ are not
‘Investments’.
The following are outside the purview of AS-13:
a) Recognition of income on investment as dealt with under AS-9 (Revenue Recognition)
b) Operating or Finance Lease.
c) Investment of retirement benefit plans and Life Insurance Enterprise.
d) Mutual fund, Asset Management Companies, Banks, Public Financial Institution, enacted under
specific Act/Companies Act, 1956.
Reasons, type, purposes etc varies widely and for this the standard is set to harmonize the accounting.
Cost of investment, means and includes,
a) Acquisition charges e.g. brokerage, fees, duties etc.
b) If acquired by issue of shares/securities, the acquisition cost is the fair market value, may be with
reference to issue price determined by statutory authorities.
Fair market value may be determined with reference to market value or net realizable value (net of
expenses to be incurred) or net of recovery of cost (dividend or interest accrued and included in the price
of investments).
Current investment/Short term investment:
a) Readily realizable and not intended to be held for more than a year from date of investment.
b) The carrying amount on the reporting date is taken at lower of cost or fair value to prudently
account for the unrealized losses but not the unrealized gains, considering individual or category of
investments (not on overall basis).
c) Any reduction to the fair value and any reversal to such reduction is included in the P/L Account.
Long-term investment:
a) Investments held otherwise even if readily marketable are long term investments
b) Intended to protect, facilitate and furtherance to existing operation, also known as Trade investments
(not meant to provide additional cash resources)
c) Long-term investments are normally carried at cost unless there is a permanent diminution in the
value when the same is recognized in the carrying amount by charging or reversing through P/L
Account.

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d) The carrying amount is determined on individual investment basis.
On disposal, the difference between the carrying amount and the net proceed of disposal is recognized
in the P/L Account.
Investment in Property is in Land or Building, not intended for occupation substantially for use by
or in the operation of the Investing Enterprise, should be treated as long-term investment.
Reclassiﬁcation of Investments:
1) Long term to current : Take lower of cost and “carrying amount”
2) Current to Long term: Take lower of cost and “ fair value”
Disclosure under AS-13:
a) Accounting policy for determination of carrying amount
b) Income separately for long-term and current investments, at gross i.e. inclusive of TDS.
c) Profit or loss on disposal and changes in carrying amount separately for long term and current
investments.
d) Significant restrictions on the right of ownership, realisability of investments or the remittance of
income and proceeds of disposal.
e) The aggregate amount of quoted and unquoted investments and aggregate market value of quoted
investments.
f) other specific disclosure as required by Statute governing the enterprise, (e.g. Schedule VI requires
classifications to be disclosed in terms of Govt. or Trust securities, shares, debentures or bonds,
investment properties others)
PROBLEMS
1. In preparing the financial statements of X Ltd.for the year ended 31st
March,2007, you come across
the following information. State with reasons, how would you deal with them in the financial
statements:
“ An unquoted long term investment is carried in the books at a cost of Rs.5 lakhs. The published
accounts of the unlisted company received in June 2008 showed that the company was incurring
cash losses with declining market share and the long term investment may not fetch more than Rs.1
lakh”.
Answer: As per AS-13, the long term investments should be carried in the financial statements at
cost. If there is a diminution in the value of long term investments, which is not temporary in nature,
provision should be made for each investment individually. Any reduction in the carrying amount
should be charged to the Profit and Loss Account.
The long term investments are carried at a cost of Rs.5 lakhs in the books of accounts. The value of
investments fall down to Rs.1 lakh due to cash losses and the declining market share of the company
in which the investments were made.
In view of the provision contained in AS-13, the carrying amount of long-term investments should be
brought down to Rs.1 lakh and Rs.4 lakhs should be charged to Profit and Loss Account for the year
ended 31st
March, 2008.

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2. A company has invested a substantial amount in the shares of another company under the same
management. The market price of the shares of the aforesaid company is about half of that at which
these shares were acquired by the company. The management is not prepared to provide for the fall
in the value of shares on the ground that the loss is only notional till the time the shares are actually
sold?
Answer: As per AS-13, for the purpose of determining carrying amount of shares the investment
has to be classified into long-term and current; in the instant case, it appears that the investment
is long-term, hence it should be carried at cost, unless there is a permanent diminution in value of
investment. At the market price, investment is half of its cost. The reduction appears to be heavy and
permanent, hence the provision for permanent diminution(decrease) in value of investment should
be made. The contention of management is not as per AS-13.
3. MAGIC Bank has classified its total investment on 31.3.2008 into three categories: (a) held to maturity
(b) available for sale (c) held for trading.
Held to maturity investment is carried at acquisition cost less amortised amount. Available for sale are
carried at marked to market. Held for trading investments are valued at weekly intervals at market
rates or as per the prices declared by FIMMDA. Net depreciation, if any, is charged to revenue and net
appreciation, if any, is ignored. Comment on the policy of the bank in accordance with AS-13.
Answer: As per para 2(d) of AS-13, the accounting standard is not applicable to bank, insurance company,
mutual funds. In this case, MAGIC Bank is a bank, therefore AS-13 does not apply here. For the banks, the
RBI has issued guidelines for classiﬁcation and valuation of the investment. Therefore, the MAGIC Bank
should comply with RBI guidelines.
AS -14: ACCOUNTING FOR AMALGAMATIONS
Amalgamation refers to an amalgamation as per the provision of the Companies Act,1956 or any other
law applicable to Companies. Sections 391 to 394 if Companies Act,1956 governs the provisions of
amalgamation.
Amalgamation may be categorized broadly as:
I) Merger : - genuine pooling of assets and liabilities and shareholder’s interest of the amalgamation
companies.
II) Purchase: - the shareholder of the acquired company do not continue to have proportionate share in
the combined company or where the business of the former is not intended to be continued.
Amalgamation in the nature of merger:
a) All the assets and liabilities of the transferor company are taken over by the transferee company.
b) Such assets and liabilities are incorporated without any adjustment (except to ensure uniformity of
accounting policies) in the financial statements of the transferee.
c) At least 90 percent equity holders of transferor become equity shareholders of transferee by virtue of
the amalgamation.
d) The consideration for the amalgamation is discharged by equity shareholders in the transferee, except
for fractional shares by cash.
e) The business of the transferor is intended to be carried on by the transferee.

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Amalgamation in the nature of Purchase:
Absence/non-fulfillment of one or more conditions as above will make the amalgamation in the nature
of purchase.
Accounting methods:
1) Merger - Pooling of interest method: -
(a) In preparing the balance sheet of the transferee company after amalgamation, line by line
addition of the respective assets and liabilities of the transferor and transferee company should
be made except for share capital;
(b) If Purchase Consideration is more than Share capital(equity + preference) of the transferor
company,thedifferencewillbeadjustedwithReserves.Nogoodwillcanbecreatedorrecognized
since there is no acquisition. If Purchase consideration is less than share capital, such shall be
recognized as Capital Reserve, as per the Expert Advisory Committee (EAC) of the ICAI, April
2004.
2) Purchase method:
a) The transferee record the assets and liabilities at their existing carrying amount or by allocating
the consideration to individual identifiable assets and liabilities (even may be unrecorded in
transferors’ financial statements) at fair value on the date of amalgamation;
b) If Purchase consideration is more than the value of net asset acquired by transferee be recognized
as “Goodwill” in the financial statement. (if feasible and practicable, the goodwill is amortised
over the useful life, otherwise over a period of not exceeding 5 years). In a reverse situation it is
Capital Reserve which cannot be transferred to General Reserve.
c) In case of amalgamation in the nature of purchase the identity of reserves other than Statutory
Reserve (Development Allowance/ Investment Allowance Reserve under I.T Act), is not
preserved.
Disclosure under AS-14 (in the first financial statement after the amalgamation)
a) Names and general nature of business of the amalgamating companies
b) Effective date of amalgamation for accounting purpose
c) The method of accounting used
d) Particulars of the scheme sanctioned under statute
e) Additional disclosure for merger
1. Description and number of shares issued
2. Percentage of each company’s equity shares exchanged under amalgamation
3. The amount of difference between the consideration and the value of net identifiable assets
acquired and treatment thereof
f) Additional disclosure under ‘Purchase’ method
1. Consideration for the amalgamation and a description of the consideration paid or contingently
payable

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2. Amount of difference as above and the treatment/amortization period for goodwill
g) Where the scheme sanctioned under a statute prescribes a different treatment other than AS-14, for
better understanding:
1. A description of the accounting treatment and reasons for variation with AS-14
2. Deviation in the accounting treatment as prescribed in he scheme under statute as compared to
AS-14, if followed had there been no treatment prescribed by the scheme.
PROBLEMS
1) X Ltd. having a share capital of Rs.20 lakhs and Y Ltd.having a share capital of Rs.30 lakhs. Z Ltd.
was formed to take over the business of X Ltd and Y Ltd. at a purchase consideration of Rs. 25 lakhs
and Rs.28 lakhs, payable in shares of Z Ltd. The assets and liabilities were taken at their carrying
amounts.
Solution: Since the purchase consideration is payable in shares of the transferee company and all the
assets and liabilities are taken over at their carrying amounts, the amalgamation is in the nature of
merger, i.e. pooling of interests method.
For X Ltd. Purchase consideration = Rs.25 lakhs
Less: Share capital of X Ltd = Rs.20 lakhs
Excess of purchase consideration = Rs.5 lakhs. This shall have to be adjusted against the Reserves of
Z Ltd.
For Y Ltd. Purchase Consideration = Rs.28 lakhs
Less: Share Capital of Y Ltd = Rs.30 lakhs
since purchase consideration is less than share capital of the transferor company, Rs.2 lakhs shall be
treated as Capital Reserve.
Note: In case of amalgamation in the nature of purchase, goodwill shall have to be shown in the
Balance Sheet of the Transferee company. Such goodwill shall have to be written off over a maximum
period of 5 years.
2) Net Assets of the Transferor Campany : Rs. 20 lakhs. If Purchase Consideration is (i) Rs. 18 lakhs (ii)
Rs.23 lakhs amalgamation is in the nature of purchase.
Answer: (i) Net Assets Rs.20 lakhs Purchase Consideration Rs.18 lakhs. So, Rs.2 lakhs will be treated
as Capital Reserve.
(ii) Net Assets Rs20 lakhs Purchase Consideration Rs.23 lakhs. So, Rs.3 lakhs will be treated as
Goodwill.
AS-15: EMPLOYEE BENEFITS
The statement applies to beneﬁt usually comprising of Provident Fund, Superannuation/Pension Fund,
Gratuity, Leave encashment or retirement, Post retirement health and welfare schemes and other beneﬁts
provided by an employer to employees either in pursuance of legal requirement or otherwise, but does
not extend to employers’ obligation which cannot be reasonably estimated (e.g. ex-gratia ad-hoc on
retirement).

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There may be obligation on the part of the employer either against defined contribution plan or defined
benefit schemes as elaborated below:
a) Defined Contribution Plans (DCP):
1) Retirement benefit is determined by contribution at agreed/specified rate to the Fund together
with earnings thereof.
2) Contribution (e.g. PF) whether paid or payable for the reporting period is charged to P/L
statement
3) Excess if any is treated as prepayment
b) Defined Benefit Plans (DBP):
1) Amount paid is usually determined with reference to employee’s earnings and/or years of
service (if the basis of contribution are determined, it will be treated as defined contribution
scheme)
2) However, if the employer’s responsibility is subject to specified benefits or a specified level of
benefits, it is defined benefit scheme.
3) The extent of employer’s obligation is largely uncertain and subject to estimation of future
condition and events beyond control.
Accounting treatment for Gratuity benefit and other defined benefit schemes depends on the arrangement
made by the employer:
a) No separate fund i.e. out of nonspecific own fund:
1) Provision for accruing liability in the P/L Account for the accounting period is made.
2) The provision is based on an actuarial method or some other rational method (assumption that
all employers are eligible at the end of the accounting period)
b) Own separate/specific fund established through Trust:
The amount required to be contributed on actuarial basis is certified by the Actuary, and the actual
contribution plus and shortfall to meet the actuarial amount is charged to P/L Account for the
accounting period, any excess payment treated as prepayment.
c) Fund established through Insurer: in the same manner as in (b) above
Actual valuation may be carried out annually (cost can be easily determined for the purpose of
contribution as a charge to P/L) or periodically (say, once in 3 years) where Actuary’s certificate
specifies contribution on annual basis during inter-valuation period.
Leave encashment is an accrued estimated liability based on employers’ past experience as to such
benefit actually availed off and probability of encashment in future and therefore should relate to
the period in which relevant service is rendered in compliance with section 209(3) - accrual basis and
AS-15.
a) In view of the varying practices, adequate disclosure of method of accounting for an understanding
of the significance of such costs to an employer.

400
b) Disclosure separately made for statutory compliance or otherwise the retirement benefit costs are
treated as an element of employee remuneration without specific disclosure.
c) Financial statements should disclose whether actuarial valuation is made at the end of the accounting
period or earlier (in which case the date of actuarial valuation and the method used for accrual
period if not based on actuary report).
Treatment of Voluntary Retirement scheme payments:
1) Termination benefits to be paid irrespective of the voluntary retirement scheme i.e. balance in P.F,
leave encashment; gratuity etc.
2) Termination benefits which are payable on account of VRS i.e. monetary payment on the basis of
years of completed service or for the balance period of service whichever is less and notice pay.
Expert Advisory Committee (EAC) opines in favour of treating the costs (except gratuity which should
have been provided for in the respective accounting period) as deferred revenue expenditure since it is
construed upon as saving in subsequent periods, on some rational basis over a period, preferably over 3 -
5 year. However, the terminal beneﬁt is, to the extent these are not deferred should be treated as expense
in the P/L Account with disclosure.
PROBLEMS
1. ZERO Bank has followed the policies for retirement benefits as under:
(a) contribution to pension fund is made based on actuarial valuation at the year end. In respect of
employees who have opted for pension scheme.
(b) Contribution to the gratuity fund is made based on actuarial valuation at the year end.
(c) Leave encashment is accounted for on “PAY-AS-YOU-GO” method.
Comment whether the policy is in accordance with AS-15.
Answer:
(a) As the contribution to Pension Fund is made on actuarial basis every year, thereforethepolicy
is as per AS-15, which is based on actuarial basis of a counting.
(b) As the contribution is being made on annual basis to gratuity fund on actuarial basis, the policy
is in accordance with AS-15.
(c) As regard leave encashment, which is accounted for on PAY-AS-YOU-GO basis, it is not in
accordance with AS-15. It should be accounted for on accrual basis.
2. In the context of relevant Accounting Standards, give your comment on the following matter for the
financial year ending 31st
March,2008:
“Increase in pension liability on account of wage revision in 2007-08 is being provided for in 5
instalments commencing from that year. The remaining liability of Rs.300 lakhs as redetermined in
actuarial valuation will be provided for in the next 2 years”
Answer: As per AS-15, the costs arising from an alteration in the retirement benefits to employees
should be treated as follows:
(i) The cost may relate to the current year of service or to the past years of service.

401
(ii) In case of costs relating to the current year, the same may be charged to Profit and Loss
Account
(iii) Where the cost relates to the past years of service these should be charged to Profit and Loss
Account as ‘prior period’ items in accordance with AS-5.
(iv) Where retirement benefit scheme is amended in a manner which results in additional benefits
being provided to retired employees, the cost of the additional benefits should be taken as “
Prior Period and Extraordinary Items” as per AS-5.
In view of the above, the method adopted for accounting the increase in pension liability is not in
consonance to the provisions mentioned in AS-15.
AS-16: BORROWING COST
Borrowing costs are interests and other costs incurred by an enterprise in connection with the borrowing
of funds.
A qualifying asset is an asset that necessarily takes substantial period of time to get ready for its intended
use of sale.
Examples of qualifying assets:
Any tangible fixed assets, which are in construction process or acquired tangible fixed assets, which
are not ready for use or resale. Such as plants and machinery.
Any intangible assets, which are in development phase or acquired but not ready for use or resale,
such as patent.
Investment property.
Inventories that require a substantial period(i.e. generally more than one accounting period) to bring
them to a saleable condition.
The Statement is applied in accounting for borrowing costs which include:
1. Interest and commitment charges on bank borrowing and other short term borrowings
2. Amortization of discounts/premium relating to borrowings
3. Amortization of ancillary cost incurred in connection with arrangement of borrowings
4. Finance charges for assets acquired under finance lease or other similar arrangement
5. Exchange difference in foreign currency borrowing to the extent it relates to interest element
Borrowing cost incurred on assets, which takes substantial period, is treated as cost of that asset in respect
of (1) above.
As per the Guidance Note on Audit of Miscellaneous Expenditure issued by ICAI, deferment for
amortization cost upto the time the asset is put to use, in respect of (2) and (3), should be capitalized (see
below for AS-16 provision).
Finance charges as in (4) can be capitalized upto the time the asset is put to use (AS-19 deals with elaborate
provision)

402
Conditions for capitalization of borrowing costs:
Directly attributable costs for acquisition, construction or production of qualifying asset, are eligible
for capitalization.
Qualifying assets will render future economic benefit to the enterprise and the cost can be measured
reliably.
Amount of borrowing costs eligible for capitalization (speciﬁc borrowing):
Amount of borrowing eligible for capitalization = Actual borrowing cost incurred during the period
less income generated on the temporary investment of amount borrowed.
All other borrowing costs are charged to P/L Account:
AS-16 establishes a key test for capitalization which states that “borrowing costs that are directly
attributable to the acquisition, construction or production of a qualifying asset are those costs that would
have been avoided if the expenditure on the qualifying asset had not been made”.
Accounting treatment of borrowing cost as per AS-16:
a) Borrowing costs should either be capitalized or charged to P/L Account depending on the situation
but deferment is not permitted.
b) Borrowing costs are capitalized as part of cost of qualifying asset when it is probable that they will
result in future economic benefits and cost can be measured reliably - other borrowing costs are
charged to P/L Account in the accounting period in which they are incurred.
c) Capitalization, on one hand reflects closely the total investment in the asset and on the other hand to
charge the cost to future period against accrual of revenue.
d) Notional interest cost are not allowed to be capitalized.
e) A qualifying asset is an asset that necessarily takes a substantial period of time (usually a period
of 12 months unless otherwise justified on the basis of facts and circumstances) to get ready for its
intended use or sale.
f) Capitalization should be suspended during extended period in which active development is
interrupted.
g) Capitalization should cease when substantially all the activities necessary to prepare the qualifying
asset for its intended use or sale are complete.
h) Capitalization also ceases ‘when part is completed, which is capable of being used independent of
the whole.
Disclosure under AS- 16
a) Accounting Policy adopted
b) Amount of borrowing cost capitalized during the accounting period

403
PROBLEMS
1. A company capitalizes interest cost of holding investments and adds to cost of investment every
year, thereby understating interest cost in profit and loss account. Whether it leads to unusual
accounting?
Answer: The Accounting Standard Board(ASB) has opined that investments other than investment
properties are not qualifying assets as per AS-16, Borrowing Costs. Therefore, interest cost of holding
such investments cannot be capitalized. Further, even interest in respect of investment properties can
onlybecapitalizedifsuchpropertiesmeetthedefinitionofqualifyingassets,namely,thatitnecessarily
takes a substantial period of time to get ready for its intended use or sale, even where the investment
properties meet the definition of “qualifying asset”, for the capitalization of borrowing costs the
other requirements of the standard such as that borrowing costs should be directly attributable to
the acquisition or construction of the investment property and suspension of capitalization as per
paragraphs 17 and 18 of AS-16 have to be complied with.
2. X Ltd. has obtained an institutional loan of Rs. 800 lakhs for modernization and renovation of its
machinery. Machinery acquired under the modernization scheme and installation completed on
31.3.08 amounts to Rs. 600 lakhs. Rs. 80 lakhs has been advanced to suppliers for additional assets
and balance loan of Rs.120 lakhs has been utilized for working capital purpose. The total interest paid
for the above loan amounted to Rs.80 lakhs during 2007-08.
You are required to state how the interest on the institutional loan is to be accounted in the year 2007-
08.
Answer: The total interest of Rs.80 lakhs is related to two periods. Upto the date of installation of the
machinery, amount disbursed is Rs.680 lakhs( Rs.600 + 80). Interest on such amounting to Rs.68 lakhs
should be capitalized and the balance of the interest Rs.12 lakhs (i.e. Rs.80-68) should be treated as an
expense.
3. Happy Ltd.has taken a loan of US $10 lakhs on 1st
April,2007, for a specific project at an interest rate
of 10% p.a., payable annually. On 1st
April,2007, the exchange rate between the currencies was Rs.45
per US $. The exchange rate, as at 31st
March,2008, is Rs.48 per US $. The corresponding amount
could have been borrowed by Happy Ltd. in local currency at an interest rate of 15% p.a. as on 1st
April,2007.
The following computation would be made to determine the amount of borrowing costs for the
purposes of paragraph 4(e) of AS-16.
(a) Interest for the period = US $10,00,000 x 10% x Rs.48 per US $ = Rs. 48,00,000
(b) Increase in the liability towards the principal amount= US $ 10,00,000 x (48-45)= Rs.30,00,000.
(c) Interest that would have resulted if the loan was taken in Indian currency = US $ 10,00,000 x 45
x 15% = Rs.67,50,000
(d) Difference between interest on local currency borrowing and foreign currency borrowing =
Rs.67,50,000 – Rs. 48,00,000 = Rs,19,50,000
Therefore, out of Rs.30,00,000 increase in the liability towards principal amount, only Rs. 19,50,000 will be
considered as the borrowing cost. Thus, total borrowing cost would be Rs.67,50,000 being the aggregate
of interest of Rs.48,00,000 on foreign currency borrowings ( as per Para 4(a) of AS-16) plus the exchange

404
difference to the extent of difference between interest on local currency borrowing and interest on foreign
currency borrowing of Rs.19,50,000. Thus, Rs.67,50,000 would be considered as the borrowing cost to be
accounted for as per AS-16 and the remaining Rs.10,50,000 would be considered as the exchange difference
to be accounted for as per AS-11 “The Effects of Changes in Foreign Exchange Rates”.
4. On 30.4.2008 MNC Ltd.obtained a loan from the bank for Rs.50 lakhs to be utilized as under:
(i) Construction of a factory shed Rs.2 crores.
(ii) Purchase of Machinery Rs. 1.5 crores.
(iii) Working Capital Rs. 1 crore.
(iv) Advance for Purchase of truck Rs. 50 lakhs.
In March 2008, construction of shed was completed and machinery installed. Delivery of truck was not
received. Total interest charged by the bank for the year ended 31.3.08 was Rs.90 lakhs. Show the treatment
of interest as per AS-16.
Answer: As per AS-16, borrowing cost(interest) should be capitalized if borrowing cost is directly
attributable to the acquisition, construction or production of qualifying asset. Rs.5 crores borrowed from
Bank was utilized for four different purposes, only construction of factory shed is a qualifying asset as
per AS-16, while the other three payments are not for the qualifying asset. Therefore, borrowing cost
attributable to the construction of a factory shed should only be capitalized which will be equal to Rs. 90
lakhs x 2/5= Rs.36 lakhs.
The balance of Rs. 54 lakhs ( Rs.90 lakhs – Rs.36 lakhs) should be treated as an expense and debited to
Profit and Loss Account.
AS 17: SEGMENT REPORTING
In view of the complexities of types of businesses, the aggregated financial information is not adequate
to evaluate a company’s and management’s operating and financial strategies with regard to specific
or distinct line of activities i.e. segment. As an enterprise deals in multi-product/ multiple services and
operates in different geographical areas, the degree of risk and return also varies considerably.
Segment information will enable the users to understand better and also to assess the underlying risks and
returns of an enterprise.
Initially the segment needs to be broadly classified into either ‘Business Segments’ or ‘Geographical
Segments’ before being slotted as ‘Primary’ or ‘Secondary’ for reporting in the financial statements as per
AS- 7.
A ‘Business Segment’ is a distinguishable component of an enterprise that is engaged in providing an
individual product or service or a group of products or services, and that is subject to risk and return
as distinctly different from those of other business segments. For grouping related products or services,
following factors are considered:
a) The nature of product/service;
b) The nature of production processes (e.g. labour or capital intensive);
c) The type or Class of customer (e.g. gender, income).
d) The method used to describe the products or provide services (e.g. wholesaler, franchisee, dealer)

405
similarity of economic and political condition relationship between operations in different
geographical areas proximity of operation special risks associated with operation in a particular area
exchange control regulation underlying currency risk (geographical location means the location of
production or service facilities and other assets of an enterprise and the location of markets and
customers).
e) Nature of regulatory environment e.g. insurance, banking, public utilities etc the majority of the
factors will be considered to form a single segment even though, there may be dissimilarities and a
single business segment does not include products and services with significant differing risks and
returns (risk in investment and potential earnings as reward).
A ‘Geographical segment’ is a distinguishable component of an enterprise that is engaged in providing
products or services within a particular economic environment and that is subject to risk and returns
that are different from those of components operating in other economic environments. Factors for
identiﬁcation of geographical segments are:
a) Significant difference in risk and rewards;
b) Internal MIS and organization structure;
c) Essential factors that defines a business segment.
Segment accounting policies: AS-17 does not require that the enterprise apply accounting policies to
reportable segments on stand-alone reporting entities, hence, additional segment information may be
disclosed provided that:
i) Information is reported internally to the Board or CEO for the purpose of making decisions about
allocating resources to the segment and assessing its performance.
ii) The basis of measurement for additional information is closely described.
Segment Revenue is the aggregate of the portion of enterprise’s total revenue that is attributable to a
segment on a reasonable basis as distinct from other segments including inter-segment transfer with the
exception of
a) extra ordinary item as AS-5
b) income by way of interest/dividend etc unless the operation of the segments are primarily of a
financial nature
c) gains or sale of investment or on extinguishments of debts unless the operation of the segment, are
primarily of a financial nature
Inter-segment transfer should be made on the basis that is actually used to price those transfers i.e. at cost,
below cost or market price and the same should be disclosed and followed consistently.
Segment result is segment revenue less segment expense
Segment Assets comprise of directly attributable or reasonably allocable operating asset to the segment as
reduced by related allowances or provisions pertaining to those assets including allocable common assets,
however exclude:
a) income tax asset
b) general enterprise asset/H.O asset

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Segment liabilities are worked out or above basis but excluding:
a) income tax liabilities
b) general enterprise liabilities/H.O lease liabilities.
For primary segment disclosure required for:
a) segment revenue with a break-up of sales to external customers and inter segment result deduction
made to arrive at segment result in respect of total amount of non cash expenses (provisions,
unrealized foreign exchange gain/loss as included in segment expenses);
b) total amount of depreciation and amortization in respect of segment assets (not required if cash flow
of the enterprise reports operating, investing and financing activities;
c) total carrying amount of segment assets;
d) total amount of segment liabilities;
e) total cost incurred during the period to acquire segment assets that are expected to be used for more
than one period (both fixed assets and intangible assets).
For secondary segment, disclosure required for:
a) If primary format for reporting segment is business segment, it should also report;
1. segment revenue from external customers by geographical location of customers for
each geographical segment consisting 10 percent or more of enterprise revenue.
2. total carrying amount of segment assets, by geographical location of assets for each of such
geographical segment accounting for 10 percent or more of the total assets of all geographical
segments.
3. total cost incurred during the accounting period to acquire segment assets, which are expected
to be used for more than one accounting period with 10 percent more criteria as in the aforesaid
line.
b) where primary format is geographical, disclosure also required for each business segment accounting
for 10 percent or more of revenue from sales to external customers of enterprises’ total revenue or
whose segment assets are 10 percent or more of the total assets of all business segments:
1. segment revenue from external customers
2. total carrying amount of segment assets
3. total cost incurred during the accounting period to acquire segment assets with expected use
extending beyond one accounting period (both tangible and intangible) of all geographical
location where geographical segment used for primary format is based on a location, of assets
which is different from location of customers.
Additional disclosure required for
1) revenue from sales to external customers for each customer based geographical segment whose
revenue from sales to external customers constitutes 10 percent or more of enterprise’s revenue.
2) in a reverse situation, disclosure for

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i ) total carrying amount of segment assets by geographical location of assets
ii ) total cost incurred during the accounting period to acquire segment assets expected to be used
for more than one accounting period both tangible and intangible by location of assets.
AS -18: RELATED PARTY DISCLOSURE
The scope and objective of the standard is to establish requirements for disclosure of (a) related party
relationship (b) transaction between a reporting enterprise and its related parties.
This disclosure would make the ﬁnancial statements of the reporting enterprise more transparent and
allow the users to compare both intra-enterprise with corresponding earlier accounting period and inter-
enterprise as well.
However disclosure is not required
(i) if there is statutory bar on the reporting enterprise on confidentiality (banks) in respect of
constituents
(ii) in case of consolidated financial statements in respect members of the group (holding subsidiary)
with exception for transaction with Associated Enterprise accounted for under equity method
(iii) in the financial statement of State (Central or State) controlled enterprises with other state controlled
enterprise even related party relationship exists. When parties are considered related?
If at any time during the reporting period one party has the ability
(a) to control the other party
(b) to exercise significant influence over the other party in making financial and/or operating decisions,
then by virtue of AS -18 both parties would be considered as related.
Deﬁnition
a) Control:
(i) ownership directly or indirectly, of more than 50 percent of the voting power of an enterprise
(ii) the composition of the board of directors (company) or the Governing Body (other enterprise)
(iii) a substantial interest in voting power and the power to direct by Statute or by agreement, the
financial/operating policies of the enterprise (20 percent or more interest in voting power)
b) Significant Influence:
(i) refers to participation in the financial and/or operating policy decisions of an enterprise but not
control of those policies.
(ii) may be gained by ownership in share (including investment through intermediaries restricted
to mean subsidiaries as defined in AS-21 Consolidated Financial Statement)
Related party disclosures are applicable only to the following related party relationships:
1. enterprises that directly or indirectly through one or more intermediaries control or are controlled by
or under common control with the reporting enterprise
2. associates and joint venturers of the reporting enterprise and the investing party or venturer in
respect of which the reporting enterprise is an associate or joint venturer,.

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3. individualsowningdirectlyorindirectlyaninterestinthevotingpowerofthereportingenterprisethat
gives them control or significant influence over the enterprise and relatives of any such individual.
4. key management personnel and relatives of such individuals.
5. enterprise over which any person in (3) and (4) is able to exercise significant influence (including
enterprise owned by directors or major shareholders of the reporting enterprise and enterprise that
have a member of key management in common with the reporting enterprise).
Related party transactions involve transfer of resources or obligations between related parties, regardless
of whether or not .a price is charged, e.g. use of logo/brand name provision of management services,
providing ﬁnancial guarantee use of common infrastructure etc.
Type of disclosure under AS-18
a) in case of related party relationship by virtue of significant influence (not control) e.g. those of
associates, key management personnel, relatives, there is no need. to disclose the related party
relationship unless there have been actual transaction during the reporting period with such related
parties.
b) in the event of transaction between related parties during the existence of a related party relationship
(control or significant influence) the reporting enterprise should disclose:
(i) the name of transacting related party
(ii) description of the relationship between parties
(iii) description of nature of transaction
(iv) volume of transaction, either in amount or approximate proportions
(v) any other element of the related party transactions necessary for understanding of financial
statements (e.g. transfer of major asset taken at price different from normal commercial terms
i.e. not at fair value)
(vi) either in amount or proportion of outstanding items and provisions for doubtful debts pertaining
to related parties on B/S date.
(vii) amounts written off/back in the accounting period in respect of debts due from or to related
parties.
AS -19: LEASES
Lease is an arrangement by which the “Lessor” gives the right to use an asset for given period of time
to the “Lessee” on rent.
It involves two parties, a Lessor and a Lessee and an asset which is to be leased. The Lessor, who owns the asset,
agrees to allow to the Lessee to use it for a speciﬁed period of time in return for periodic rent payments.
Types of lease
(a) Finance Lease – It is a lease, which transfers substantially all the risks and rewards incidental to
ownership of an asset to the Lessee by the Lessor but not the legal ownership. In following situations,
the lease transactions are called Finance Lease.
The lessee will get the ownership of leased asset at the end of the lease tern.

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The lessee has an option to buy the leased asset at the end of term at price, which is lower than
its expected fair value at the date on which option will be exercised.
The lease term covers the major part of the life of asset.
At the beginning of lease term, present value of minimum lease rental covers substantially the
initial fair value of the leased asset.
The asset given on lease to lessee is of specialized nature and can only be used by the lessee
without major modification.
(b) Operating Lease – It is a lease which does not transfer substantially all the risk and reward incidental
to ownership.
Classification of lease is made at the inception of the lease; if at any time the Lessee and Lessor agree
to change the provision of lease and it results in different category of lease, it will be treated as
separate agreement.
Applicability
The Accounting Standard is not applicable to following types of lease:
Lease agreement to explore natural resources such as oil, gas, timber, metal and other mineral
rights.
Licensing agreements for motion picture film, video recording, plays, manuscripts, patents and
other rights.
Lease agreement to use land.
Deﬁnitions
1. Guaranteed Residual value – (G.R.V.)
In respect of Lessee: Such part of the residual value (R.V.), which is guarantee by or on behalf
of the lessee.
In respect of Lessor: Such part of the residual value, which is guaranteed by or on behalf of the
lessee or by an independent third party.
For the Lessor the residual value guaranteed by the third party can arise when the asset is leased to the
third party after the ﬁrst lease has expired and therefore it can be called the residual value guaranteed by
the third party to the Lessor.
2. Unguaranteed Residual Value (U.R.V) – The difference between residual value of asset and its
guaranteed residual value is unguaranteed residual value. [R.V- G.R.V.]
3. Gross Investment (=MLP+URV) – Gross investment in lease is the sum of the following:
Minimum lease payment (from the standpoint of Lessor) and
Any unguaranteed residual value accruing to the Lessor.
4. Interest rate implicit in the lease – When the Lessor gives an asset on lease (particularly on finance
lease), the total amount, which he receives over lease period by giving the asset on lease, includes the
element of interest plus payment of principal amount of asset. The rate at which the interest amount
is calculated can be simply called implicit rate of interest. It can be expressed as under:-

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It is the discount rate at which
Fair Value of leased Asset =Present value of [Minimum lease payment (in respect of Lessor)]
(At the inception of lease) + Any unguaranteed residual value accruing to the
Lessor.
5. Contingent Rent – Lease Rent fixed on the basis of percentage of sales, amount of usage, price indices,
market rate of interest is called contingent rent. In other words, lease rent is not fixed, but it is based
on a factor other than time.
6. Minimum lease payments [MLP]
For Lessor = Total lease rent to be paid by lessee over the lease terms + any guaranteed
residual value (by or on behalf of lessee) – contingent Rent – cost for
service and tax to be paid by the reimbursed to Lessor + residual value
guaranteed by third party.
For Lessee = Total lease rent to be paid by lessee over the lease terms + any guaranteed
residual value (for lessee) – contingent rent – cost for service and tax to be
paid by and reimbursed to Lessor.
7. Lease includes Hire Purchase – The definition of a ‘lease’ includes agreements for the hire of an asset,
which contain a provision giving the hirer an option to acquire title to the asset upon the fulfillment
of agreed conditions. These agreements are commonly known as hire purchase agreements.
Accounting for Finance Lease – In the books of Lessee
Leased asset as well as liability for lease should be recognized at the lower of –
o Fair value of the leased asset at he inception of lease or
o Present value of minimum lease payment from the lessee point of view.
Apportionment of lease payment-Each lease payment is apportioned between finance charge and
principal amount.
The lessee in its books should charge depreciation on finance lease asset as per AS-6(in this case,
straight line method will be followed)
Initial direct cost for financial lease is included is asset under lease.
Accounting for Finance Lease – In the books of Lessor
The Lessor should recognize asset given under finance lease as receivable at an amount equal to net
investment in the lease and corresponding credit to sale of asset.
Net Investment =Gross Investment – Unearned Finance Income.
Gross Investment =Minimum lease payment from Lessor point of view + Unguaranteed residual
value.
Unearned Finance Income=Gross Investment – Present Value of Gross Investment.
Recognition of Finance Income
The Lessor should recognize the finance income based on a pattern reflecting, constant periodic

411
return on the net investment outstanding in respect of the finance lease. In simple words interest /
finance income will be recognized in proportion to outstanding balance receivable from lease over
lease period.
Accounting for Operating Lease- In the books of Lessor:
Record leased out asset as the fixed asset in the balance sheet.
Charge depreciation as per AS-6
Recognize lease income in profit loss account using straight line method. If any other method
reflects more systematic allocation of earning derived from the diminishing value of leased out asset,
that approach can be adopted.
Other costs of operating lease should be recognized as expenses in the year in which they are
incurred.
Initial direct cost of the lease may be expensed immediately or deferred.
Accounting for operating lease – In the Books of Lessee
Lease payments should be recognized as an expense in the profit and loss account on a straight line basis
over the lease term. If any other method is more representative of the time pattern of the user’s benefit,
such method can be used.
“Sale and Lease back”
A sale and lease back transaction involves the sale of an asset by vendor and leasing of the same asset
back to the vendor.
Accounting treatment of Sale and Lease back
1. If lease back is Finance Lease
- Any profit or loss of sale proceeds over the carrying amount should not be immediately
recognized as profit or loss in the financial statements of a seller-lessee.
- It should be deferred and amortized over lease term in proportion to the depreciation of leased
asset.
Example 1 – H Ltd. Sells machinery, WDV of which was Rs. 400 lakhs for Rs. 500 lakhs to B Ltd. The same
machinery was leased back to H Ltd. by BLtd. for 10 years resulting in finance lease. What should be the
treatment of profit in the books of seller lessee (H Ltd.)?
The profit of Rs.10 lakhs on sale of machinery by H Ltd. (seller lessee) should not be immediately recognized
in books rather it should be deferred and amortized over 10 years in proportion of the depreciation amount
to be charged by the H Ltd. on the machinery.
2. If lease back is Operating Lease
Any profit or loss arising out of sale transaction is recognized immediately when sale price is equal
to fair value.
(A) If Sale price” below” fair value
- Profit – i.e. carrying amount (=book value or value as per balance sheet) is less than the sale
value, recognize profit immediately.

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- Loss – i.e. carrying amount is more than the sale value, recognize loss immediately, provided
loss is not compensated by future lease payment.
- Loss – i.e. carrying amount is more than sale price defer and amortize loss if loss is
compensated by future lease payment.
(B) If Sale price “above” fair value
- If carrying amount is equal to fair value which will result in profit, amortize the profit over
lease period.
- Carrying amount less than fair value will result in profit – amortize and defer the profit
equal to “sale price less fair value” and recognize balance profit immediately.
- Carrying amount is more than the fair value – which will result in loss equal to – (carrying
amount less than fair value), should be recognized immediately. Profit equal to – selling
price less fair value – should be amortized.
Example 2: H Ltd. sold machinery having WDV of Rs. 400 Lakhs to B Ltd. for Rs. 500 Lakhs and the same
machinery was leased back by B Ltd. to H Ltd. The Lease back is operating lease.
Comment if –
a) Sale price of Rs. 500 lakhs is equal to fair value
b) Fair value is Rs. 600 lakhs
c) Fair value is Rs. 450 lakhs and sale price is Rs. 380 lakhs
d) Fair value is Rs. 400 lakhs and sale price is Rs. 500 lakhs
e) Fair value is Rs. 460 lakhs and sale price is Rs. 500 lakhs
f) Fair value is Rs. 350 lakhs and sale price is Rs. 390 lakhs
Answer:
a) H ltd. should immediately recognize the profit of Rs. 100 lakhs in its books.
b) Profit Rs. 100 lakhs should be immediately recognized by H Ltd.
c) Loss of Rs. 20 lakhs to be immediately recognized by H Ltd. in its books provided loss is not
compensated by future lease payment.
d) Profit of Rs. 100 lakhs is to be amortized over the lease period.
e) Profit of Rs. 60 lakhs (460-400) to be immediately recognized in its books and balance profit of Rs. 40
lakhs (500-460) is to be amortized / deferred over lease period.
f) Loss of Rs. 50 lakhs (400-350) to be immediately recognized by H Ltd. in its books and profit of Rs. 40
lakhs (390-350) should be amortized / deferred over lease period.

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AS -20: EARNING PER SHARE (EPS)
a) The applicability of the standard is mandatory with effect from accounting year commencing on or
after 01-04-2001 in respect of enterprises whose equity shares or potential equity shares are listed on
a recognized stock exchange in India.
b) However under Part IV of Schedule VI of the Companies’ Act ’56 every company is required to
disclose EPS in accordance with AS-2O, whether listed on a recognized stock exchange or not.
c) Presentation of EPS is required to be made both on the basis of consolidated financial statement, as
well as individual financial statements of the parent company.
d) Presentation should be made in terms of Basic and Diluted EPS on the face of ‘the Profit Loss
Account for each class of equity share that has a different right to share in the net profit for the
accounting period. For equity shares having different nominal value but carrying same voting rights
should be covered into equivalent number of shares of the same nominal value.
e) Both Basic and Diluted EPS should be presented with equal prominence for all periods even if the
amounts are negative (a loss per share).
f) In addition to above, following are also disclosed:
1. the amount used as the numerator and a reconciliation of those amounts to the net profit/loss
for the accounting period.
2. the weighted average number of equity shares used as the denominator and a reconciliation of
those denominator to each other.
3. the nominal value of shares along with EPS figure.
g) Disclosure may also be made of terms and conditions of contracts generating potential equity which
affect the basic and diluted EPS both on the weighted average number of shares outstanding and any
consequent adjustments to net profit attributable to equity shareholders, following the computation
of the denominator in accordance with AS-20.
Basic EPS:
a) Basic EPS is worked out by dividing the net profit /loss for the accounting period by the equity share
using weighted average number of equity shares outstanding during the same period.
b) Net profit or loss should be arrived at after considering all income and expense recognized during
the period including tax expense extraordinary as reduced by preference dividend in respect of non
cumulative and cumulative for the period
c) Disclosure as an alternative maybe presented for basic and diluted on the basis of earning excluding
extraordinary items (net of tax expenses).
Impact of bonus element in rights issue on EPS denominator:
In a right issue the exercise price in often less than fair value of shares thus it includes a bonus element
and moreover, an adjustment is needed to recompute the fair value in relation to theoretical ex-right value
per share.

414
Diluted EPS indicates the potential variability or risk attached to the basic EPS as a consequence of the
issue of potential equity shares and potential dilutive securities having signiﬁcant impact on lowering
EPS. However, no potential equity shares be included in the computation of any diluted per share amount
in case of continuing loss from operation, even though the entity reports an overall net proﬁt.
i) Adjustments should be made both in numerator and denominator consequent upon the conversion
of potential dilution to arrive at diluted EPS in keeping with the nature of conversion including tax
implication thereon in the respective year.
ii) Potential equity shares are:
a) debt instruments/preference share convertible into equity shares
b) share warrants
c) employees and other stock option plans which entitles them to receive equity shares as part of their
remuneration and other similar plans
d) contingently issuable shares under contractual arrangements e.g. acquisition of a business/
assets, loan converted to equity on default
e) share application pending allotment if not statutorily required to be kept separately and is being
utilized for business is treated as potential (dilutive) equity share.
PROBLEMS
1. Weighted avg. number of equity shares has been illustrated in AS-20 in the following line:
Accounting year: 2007-08
Date Description Shares Issued (Nos) Buyback (Nos) O/S
01/04/2007 Op. Balance 1800 - 1800
30/09/2007 Issued for Cash 600 - 2400
29/02/2008 Buyback - 300 2100
31/03/2008 C1. Balance 2400 300 2100
Weighted average number
a) (1800 x 5/12) + (2400 x 5/12) + (2100 x 2/12) i.e. 2100 shares
or
b) (1800 x 12/12) + (600 x 7/12) - (300 x 2/12) i.e. 2100 shares
2. Net profit for 2006-07: Rs 18,00,000; Net profit for 2007-08: Rs 60,00,000; No. of equity shares as on
31.12.07: Rs.20,00,000.
Bonus issued on 1-1-08 : 2 equity shares for each Equity Share outstanding at 31-12-08 i.e. Rs.
40,00,000.
Answer:
EPS for 2007-08: (Rs 60,00,000)/(20,00,000+40,00.000) = Re 1.00
Adjusted EPS for 2006-07: (earliest period reported) (Rs 18,00,000) / 60,00,000 = Re 0.30

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3. Compute EPS:
a) Net profit for 2006 Rs 11,00,000
Net profit for 2007 Rs 15,00,000
b) Nos. of shares outstanding prior to Right Issue: 5,00,000 shares
c) Right Issue: one new share for 5 outstanding i.e. 1,00,000 new shares
d) Right price: Rs 15/-
e) Last date of right option: 1st March 2007
f) Fair value prior to the right option on 1st march 2007: Rs 21/- per equity share
Computation:
1) Theoretical ex-right fair value per share:
[(Rs 21 x 5,00,000) + (Rs 15 x 1,00,000)] / (5,00,000+ 1,00,000)
i.e. 1,20,00,000/6,00,000 = Rs 20/-
2) Adjustment factor:- fair value prior to exercise of rights/theoretical ex-right value. i.e. 21/20=1.05
3) Computation of EPS:
Year 2006 Year 2007
EPS as originally reported
Rs. 11.00,000/5,00,000 shares Rs 2.20
EPS restated for right issue
Rs. 11,00,000/(5,00,000xRs 1.05) Rs 2.10
EPS-for 2007 including rights
Rs. 15,00,000/(5,00,000x 1.05x2/12)+(6.00,000x 1 0/12) Rs 2.25
AS -21: CONSOLIDATED FINANCIAL STATEMENTS
Consolidated financial statements are presented by the parent or holding enterprise to provide financial
information about the economic activities of its group - information about the parent and subsidiaries as a
single economic entity revealing economic resources controlled by the group, the obligation of the group
and the result that the group achieved with its resources.
AS-21 lays down the principles and procedures for preparation and presentation of consolidated financial
statements in the backdrop of the facts that the Company’s Act ’56 doesn’t provide for consolidation vis-
à-vis the compliance to be made by listed companies in terms of AS-21.
Thus in parent enterprise’s separate financial statements, investment in subsidiaries should be accounted
for as per AS-l3, i.e. Accounting for Investments.
The consolidated financial statements even if made voluntarily should comply with AS -21.

416
The key note is the control by the parent which means and includes:
i) the ownership, directly or indirectly through subsidiary/subsidiaries of more than 50% of the voting
power of an enterprise or,
ii) control of the composition of the Board of Directors or Governing Body (e.g. in the form of restriction,
holding a position and right in nomination exercisable by the parent with reference to the subsidiary)
as the case may be so as to obtain economic benefits from its activities.
Further “Control” is also further screened to exclude a subsidiary if;
a) it is intended to be temporary i.e. the subsidiary is acquired and held exclusively with a view to
subsequent disposal in near further, in other words not intended for long term purpose.
b) there is long term restriction on the subsidiary which significantly impair its ability to transfer funds
to the parent enterprise. (e.g. embargo on fund transfer by foreign subsidiary-severe devaluating
currency)
In above cases investment would be valued as per AS -13 and not AS-21. AS-2) does not deal with the
specific AS as under:
i) AS-14 - Accounting for Amalgamation
ii) AS-23 - Accounting for Investment in Association
iii) AS-27 - Accounting for investment in Joint Venture
Since schedule VI is not tailored to the presentation of consolidated financial statement. ICAI has provided
general guideline vide GC-5/2002 which broadly states that the following principles should be served:
a) notes which are necessary for presenting a true and fair view of the consolidated finance statements
should be included as an integral part thereof.
b) Only the notes involving items, which are material, need to be disclosed and the materiality is judged
in the context of consolidated financial statement. Applicability of other Accounting Standard, in the
preparation and presentation of consolidated statements are stated below:
a) irrespective of the format followed, the minimum disclosure under various mandatory standards
should be made.
AS-1: disclosure of accounting policies (e.g. going concern)
AS-22: accounting for taxes and income as applicable to the individual entity only cannot be given setoff
treatment in CFS.
Specific items to AS in respect of balances of individual enterprise and not as a group e.g. “Current
Investment valued at lower of cost or market price” Segmental information on consolidated numbers of
individual enterprise in the group only.
Disclosure relating -to operating lease (AS-19) would not be required since the same is setoff and eliminated
at consolidated level.
Related party transaction, within the group would not require discloser since eliminated at consolidated
level.

417
Accounting related treatment for in consolidated ﬁnancial statements:
a) Consolidation should be made on line by line basis by adding together like items- assets, liabilities,
income and expense
b) All group balances and group transactions and unrealized profits arising thereon should eliminated
c) Dividend - minority share when paid is deduced from opening “Minority Interest” A/c and the
portion attributable to parent is eliminated from Consolidated Reserves.
d) Excess of cost to the parent of its investment in a subsidiary over the parent’s portion of equity of
the subsidiary on date of investment is recognized as ‘goodwill’ or in reverse situation as ‘capital
reserve’ and the ‘minority interest’ as a liability separately in the consolidated financial statement as
a distinct item.
e) When carrying amount of the investment in the subsidiary is different from its cost, the carrying
amount is considered
f) Usually consolidated financial statements are drawn upto the same date for reporting. In case, the
reporting dates are different, the subsidiary normally prepares statements as at the same date of the
parent. However, impracticable, different dates may be reported but the difference should not be
more than six months with adjustments made for the effects, of significant transactions during the
intervening period in respect all the items in the financial statements pertaining to that transaction
e.g. cost of sales, inventory, unrelated gains, inter group balances. If not material otherwise, may be
adjusted in income statement.
g) AS-21 permits the use of different accounting policies and estimates between group members, as long
as the proportion of these in the in the context of the CFS are properly disclosed and explained.
h) AS-21 allows the use of financial statements of the subsidiary for the immediately preceding period
if the financial statements as on the date of investments are not available or impracticable to draw
the financial statements as on that date. As stated earlier, effects of significant transactions or events
occur between the two dates are made.
i) I several investments are Trade over time to make it 51 % control, goodwill may be determined when the
last investment is made to bring the slake to 51 % or alternatively on each step-up investment basis.
j) Goodwill is determined on the basis of carrying value of assets/liabilities of the subsidiary at the
balance sheet date, thus fair value accounting for acquisition is not permitted under AS-21.
k) Where a group has acquired several subsidiaries, some resulting in goodwill and others a capital
reserve, set off is not made for consolidation purpose.
Disclosure in terms of AS-21
a) Disclosure should be made in accordance with the format of the parent company’s financial
statements. Further disclosure under all the mandatory accounting standards when material and also
compliance with General Classification no. 5/2002 should be made in order to ensure comparability
for one period to the next, supplementary information about the effect of acquisition and disposal of
subsidiaries on the financial position at the reporting date and results for the reporting period with
comparative preceding period amount, should be disclosed.
b) Reasons for exclusion from consolidation of subsidiaries should be disclosed. List of all subsidiaries-
name, country of incorporation/residence, proportion of ownership interest and if different
proportion of voting power.

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c) Nature of relationship if the parent does not own directly or indirectly more than 50% of voting
power of the subsidiary.
d) Names of subsidiary/subsidiaries of which reporting dates are different from that of the parent and
the difference in reporting dates.
AS-22: ACCOUNTING FOR TAXES ON INCOME
The need for establishing a standard arises due to difference between profit computed for accounting and
that for tax purpose. As per this standard, the income tax-expense should be treated just like any other
expenses on accrual basis irrespective of the timing of payment of tax.
Tax expense = current tax + deferred tax
Current tax is the amount of income-tax determined to be payable(recoverable) in respect of the taxable
income ( tax loss) for a period.
Deferred tax is the tax effect of timing difference.
The difference accounts for:
a) treatment of revenue and expenses as appearing in the profit and loss Ale and as considered for the
tax purpose.
b) the amount of revenue or expenses as recognized in the P/L A/c and as allowed for tax purpose.
The difference as arising in the above context gives rise to ‘deferred tax’ and it needs to be ensured
that the tax charges in future accounting period is not vitiated.
The difference in accounting profit and taxable profit can be broadly categorized into two:
a) Permanent difference: which originates in one period and do not reverse in subsequent periods, e.g.
personal expenses disallowed, interest/penalty disallowed as expense or tax-free agricultural income,
various deduction under section 10, benefit/reliefs under section 80 in computing taxable income.
Permanent differences do not result in deferred taxes.
b) Timing difference: which originates in one period and is capable of reversal in subsequent period(s):
difference in net block of fixed assets as per accounts and as per tax due to difference in the rate
and method of depreciation;
provisionfordoubtfuldebtsandadvances,provisionforwarranties,provisionforVRS,provision
for asset write-off, disallowed payments under 43B of Income Tax Act, provision for excise
liabilities, provision for diminution in value of investments, scientific research expenditure (not
weighted deduction which is a permanent difference), section 350 deduction, amortization of
deferred revenue expenditure, lease income.
Situations which leads to Deferred Tax:
Deferred tax is the tax effect due to timing difference. They arise due to the following reasons:
Accounting Income less than Tax Income
Accounting Income more than Tax Income
Income as per Accounts but loss as per IT Act
Loss as per Accounts but income as per IT Act

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Impact of such timing differences may lead to:
Deferred Tax Liability (DTL): postponement of tax liability, which states Save Now, Pay Later.
Profit and Loss A/c………..Dr
To Deferred Tax Liability A/c
Deferred Tax Asset (DTA): pay you tax liability in advance, which states Pay Now, Save Later.
Deferred Tax Asset A/c……….Dr
To Profit and Loss A/c
In the year of reversing time difference, either DTL is written back to profit and loss or the DTA is reversed
by debiting profit and loss account.
For the recognition of DTA, prudence should be applied. Such recognition is based on “ reasonable
certainty” that sufficient taxable income would be available in the future to realize the DTA.
In case of unabsorbed depreciation and carry forward losses, DTA should only be recognized to the extent
that there is “virtual certainty” that in future sufficient taxable income would be available to realize the
DTA.
Reasonable certainty shall be deemed to be in existence if the probability of future taxable income is
greater than 50%.
Virtual certainty shall be deemed to be in existence only when the evidence suggests that there will be
sufficient taxable income in the future.
Disclosure under AS-22 Mandatory :
a) Break up of the deferred tax asset/liability.
b) DTL should be shown after the head “Unsecured Loans” and DTA after the head “Investments”
with a separate heading.
PROBLEMS
1. From the following information for R Ltd. for the year ended 31st
March,2008, calculate the deferred
tax asset/liability as per AS-22
Accounting Profit Rs.10,00,000
Book Profit as per MAT(Minimum Alternate Tax) Rs.9,00,000
Profit as per Income Tax Act Rs.1,00,000
Tax Rate 30%
MAT Rate 10%
Answer:
Tax as per accounting profit : 10,00,000 x 30%= 3,00,000
Tax as per Income Tax profit : 1,00,000 x 30% = 30,000
Tax as per MAT : 9,00,000 x 10%= 90,000

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Tax expense = Current tax + deferred tax
3,00,000 = 30,000 + deferred tax
Therefore, Deferred Tax Liability as on 31.3.08 = Rs.3,00,000 – Rs.30,000 = Rs.2,70,000.
Amount of tax to be debited in Profit and Loss Account for the year 31.3.08:
= Current tax + deferred tax liability + Excess of MAT over current tax
= 30,000 + 2,70,000 + (90,000 – 30,000)
= 3,60,000
2. Z Ltd,has provided depreciation as per accounting records Rs.40 lakhs but as per tax records Rs.60
lakhs. Unamortized preliminary expenses, as per tax records is Rs.20,000. there is adequate evidence
of future profit sufficiency. How much deferred tax asset/liability should be recognized as transition
adjustment? Tax rate 30%.
Answer: As per Para 13 of AS-22, deferred tax should be recognized for all the timing differences.
In this situation, the timing difference i.e. the difference between taxable income and accounting
income is :
Excess depreciation as per tax Rs. (60 – 40) lakhs = Rs.20.00 lakhs
Less: Expenses provided in taxable income = Rs. 0.20 lakhs
Timing difference Rs.19.80 lakhs
As tax expense is more than the current tax due to timing difference of Rs.19.80 lakhs, therefore
deferred tax liability = 30% of Rs.19.80 lakhs = Rs.5.94 lakhs.
Profit and Loss A/c………….Dr 5.94
To Deferred Tax Liability A/c 5.94
AS-23: ACCOUNTING FOR INVESTMENTS IN ASSOCIATES IN CONSOLIDATED
FINANCIAL STATEMENTS (CFS)
An enterprise that presents CFS should account for investments in Associates as per this standard.
This standard is not applicable for preparing and presenting stand-alone Investors’ financial statement (in
such cases AS] 3 is followed).
An Associate is an enterprise in which the investor has significant influence (power to participate in the
financial/operating policy decisions of the investee but not control over those policies) and which is
neither a subsidiary nor a joint venture of the Investor. The ‘control’ for the purpose of AS-23 is similar to
that of AS-21.
Significant influence may be evidenced in one or more ways in the following line:
a) Representation on the Board of Directors or Governing Body of the Investee.
b) Participation in policy making process
c) Material transaction between investor and investee.
d) Interchange of managerial personnel
e) Provision of essential technical information

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But it does not extend to power to govern the financial and/or operating policies of an enterprise.
Significant influence may be gained through share ownership, statute or agreement:
a) For share ownership, 20% or more in voting power in investee (held directly or indirectly through
subsidiary) indicates significant influence but that is not the ultimate, the significant influence must
be clearly demonstrated.
b) A substantial or majority ownership by another investor in the investee does not necessarily preclude
an investor to have significant influence.
c) Voting power is determined on the basis of current outstanding securities and not potential equity.
Non applicability of AS-23:
1) Investment in associates are accounted for using the ‘equity method’ in the CFS except when,
a) the investment is made and held exclusively with a view to subsequent disposal in the near
future, or
b) the associate operates under severe long-term restrictions that significantly impairs its ability to
transfer funds to investor. Investments in such a situation is accounted for in accordance with
AS-3 in CFS.
2) Equity method of accounting is also not applicable if
a) it has no investment in Association
b) it has investment in Association but has no subsidiaries, CFS is not required
c) it has subsidiaries and associates but these are not material, hence CFS is not prepared.
d) It is not listed enterprise hence not mandatory to present CFS or has not chosen voluntarily to
present CFS.
Equity method of accounting recognizes the investment initially recorded at cost identifying goodwill/
capital reserve at the time of acquisition. The carrying amount of investment is thereafter adjusted for
the post-acquisition charge in the investor’s share of net assets of the investee and consolidated P/L A/c
reflect the investor’s shares in the result of operation of the investee. Further any permanent decline in the
value of investment is reduced to arrive at the carrying amount for each such investment.
Except inconsistent with AS-23, other accounting treatment would follow AS-21 Disclosure under AS-23
a) Reasons for not applying Equity Method in accounting for investments in associates in CFS .
b) Goodwill/capital reserve as included in the carrying amount of investment in Associates disclosed
separately.
c) Description of associates, proportion of ownership interest and if different proportion of voting
power held disclosed in CFS.
d) Investment using equity method should be classified as long-term investment in consolidated balance
sheet, similarly investor’s share in profit/loss in consolidated P/L Account and also investor’s share
of extraordinary or prior period items should be disclosed separately.
e) The names of associates of which reporting date is different from that of the financial statements of
the investor and difference in reporting date should be disclosed in CFS.

422
f) Difference in the accounting policies if not practicable for appropriate adjustment in Associate’s
financial statement for being adjusted in CFS, the fact as such with description of difference in
accounting policies should be disclosed.
g) In compliance with AS-4, Contingencies and events occurring after the balance sheet date, the investor
discloses in the CFS:
(i) its share of contingencies and capital commitments of an Associate for which the investor is
contingently liable, and
(ii) those contingencies that arise because the investor is severely liable for the liabilities of the
associate.
PROBLEMS
1. X holds, 25% share in Y Ltd at a cost of Rs 5 lakhs as on 31-03-2001. Out of Y’s shares capital and
reserve Rs 20 Lakh each.
For the year ended 31-03-08 Y made a profit of Rs 80,000 and 50% distributed as dividend. In the CFS,
the value (carrying amount) as at 31-03-2008 will be as under:
Rs in Lakhs
Cost of shares in Y Ltd. 5.00
Share of Reserve 5.00
Share of profit 0.20
10.20
Less: dividend received 0.10
Value of investment as at 31.03.08 10.10
2. Style Ltd. acquired 30% of Ugly Ltd.’s shares on April 10,2007, the price paid was Rs. 20,00,000.
Rs.
Equity shares(Paid up) 5,00,000
Securities Premium 5,00,000
Reserve 5,00,000
25,00,000
Further, Ugly Ltd reported a net income of Rs.3,00,000 and paid dividends of Rs.1,00,000. Style Ltd.
has subsidiary on 31.3.08. Calculate the amount at which the investment in Ugly Ltd should be shown
in the consolidated Balance Sheet of Style Ltd. as on 31.3.08
Answer: As per AS-23, when the investor company prepares the consolidated Balance Sheet, the
investment in associate i.e. Ugly Ltd. shall be carried by equity method and goodwill and capital
reserve to be identified and disclosed separately.
Value of the investment as per equity method
= 20,00,000 + 30% (3,00,000 – 1,00,000)= Rs.20,40,000.
Goodwill identified = (20,00,000 – 30% of 25,00,000) = Rs. 12,50,000

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AS-24: DISCONTINUING OPERATION
AS-24 requires disclosure to be made when the discontinuation is in process and not merely once it has
been fully completed for reporting information, to enhance the ability of the user of the financial statements
to study projection of cash flow, earnings generating capacity and financial information differentiating
between ‘continuing’ and ‘discontinuing’ operation.
Prerequisites to determine ‘discontinuing operation’ –
1. The enterprise in term a single plan:
a) disposing substantially in its entirety e.g. by selling the component in a single transaction or by
demerger or spin-off of ownership of the component to the enterprise’s shareholder, or
b) disposing in piecemeal manner e.g. selling off the assets-and settling its liabilities individually
or
c) terminating through abandonment
2. That represent, a separate major line of business or geographical area of operation, and
3. That can be distinguished operationally for financial reporting purpose.
A restructuring event or transaction that does not meet with the definition of a ‘discontinuing operation’
within the ambit of AS-24, should not be called or treated as discontinuing operation. Typical example of
instances which by itself does not mean ‘discontinuing operation’ but may lead to such in combination
with other circumstances:
a) gradual or evolutionary phasing out of a product line or class of service
b) abrupt discontinuing of several products within an ongoing line of business
c) shifting of some production or marketing activities for a particular line of business from one location
to another
d) closing of a factory to achieve productivity improvements or other cost savings. ‘discontinuing
operation’ are expected to occur infrequently, but resulting income or expenses arising thereof needs
to be disclosed in terms of AS-5 ~o explain the performance of the enterprise for the period.
Above all any transaction or event or in combination in order to be treated as ‘discontinuing operation.’
must be in terms of an overall plan falling within the prerequisites of ‘discontinuing operation.
AS- 17 for segment reporting would normally satisfy the definition of ‘discontinuing operation’, but the
significance for reporting under AS-24 will depend on individual judgment e.g. an enterprise operates in
a single business/geographical segment though not reportable under AS- 17 may fall within the ambit of
AS-24.
The criteria of discontinuation which can be distinguished operationally and for financial repotting
purpose must fulfill the following:
a) the operating assets/liabilities of the component can be directly attributed to it.
b) revenue can be directly attributed to it
c) at least a majority of operating expenses can be directly attributed to it.

424
Going concern concept is not disturbed if an enterprise merely disposes off few of its segments but
continues to operate its other business proﬁtably, on the other hand if a substantial part of its operation is
discontinued and there is no operation to carry as a result, it will cease to be going concern.
Discontinuing process need not necessarily arise out of binding sale agreement but relates back to
the announcement of a detailed, formal plan approved by the Board of Directors /Governing Body,
if precedes sales agreement and therefore require initial disclosure event/transaction. However the
announcement must demonstrate the commitment to discontinue resulting into a constructive obligation
for the enterprise. Requirement of initial disclosure in the ﬁnancial statement for the period in which the
event of discontinuing operation occur, are:
I. A description of discontinuing operation
2 The date and nature of initial disclosure event
3. Probable date or period by which the discontinuance is expected to be completed
4. Carrying amount of the total of assets to be disposed off and the total of liabilities to be settled
as of the Balance sheet date
5. The amount of revenue and expenses in respect of ordinary activities attributable to the discontinuing
operation during the current financial reporting period.
the pre-tax profit/loss and tax expense (AS-22) in the above line. the amount of net cash flow
attributable to the operating/investing/financing activities of the discontinuing operation during
the current financial reporting period. If the initial disclosure event occurs in between the balance
sheet date and the date of approval of financial statements by the board of directors/corresponding
approving authority, disclosure compliance should be made as per AS-4 not under AS-24. Disclosure
should continue till the discontinuance is substantially completed or abandoned, irrespective of
receipt of payments from its buyer.
In case the discontinuance plan is abandoned or withdrawn as previously reported, the fact, reasons
and effects thereof including reversal of any prior impairment of loss or provision that was recognized
in the plan, should be disclosed.
1. By way of a note in the financial statement in respect of each discontinuing operation, in addition to
disclosure on the face of the statements of profit/loss in respect of:
a) the amount of pre-tax profit/loss from ordinary activities, income tax expense as attributable to
discontinuing operation, during the current financial reporting period; and
b) the amount of pre-tax gain or loss recognized on the disposal of assets or settlement of liabilities
attributable to the discontinuing operation.
2. Comparative information for prior period that is presented in financial statements prepared after the
initial disclosure should be restated to segregate assets, liabilities revenue expense and cash flows of
continuing and discontinuing operations.
3. AS-24 does not provide for the principles to recognize and measure profit/loss in respect of
discontinuing operation and therefore, other accounting standards would be applicable e.g. AS-4,
AS-10 and other AS as and when applicable.

425
PROBLEMS
1. A FMCG company is manufacturing two brands of soap. Cinthol and Breeze. Company has gradually
planned to shift all the manufacturing operation engaged in two soaps to manufacture only ‘Breeze
Soap’ without closing the factory/plant producing the ‘Cinthol Soap’, rather utilizing the production
facilities of ‘Cinthol Soap’ for producing the ‘Breeze Soap’. Can we consider the operation to have
been discontinued ?
Answer: Discontinuing operation is relatively large component of an enterprise which is major line
of business or geographical segment, that is distinguishable operationally or for financial reporting
such component of business is being disposed on the basis of an overall plan in its entirety or in
piecemeal. Discontinuance will be carried either through demerger or spin-off, piecemeal disposal of
assets and settling of liabilities or by abandonment.
In the given case, it is not a discontinuing operation.
2. B Ltd. is a software company, has subsidiary C Ltd. B Ltd.hold 70% shares in C Ltd. During 2007-08,
B Ltd. sold its entire investment in C Ltd. Is it a discontinuing operation?
Answer: As per the definition and scope of ‘discontinuing operation’, the sell of investments in
subsidiary company does not attract the provisions of AS-24.
Hence, it is not a discontinuing operation.
3. C Ltd.has three major lines of business: steel, tea and power generation. It has decided to sell the tea
division during the financial year 2007-08. A sale agreement has been entered into on 30th
September
2007 with P Ltd. under which the tea division shall be transferred to P Ltd. on 31st
March,2008. Is it a
discontinuing operation?
Answer: This is a case of disposing of the tea division substantially and in its entirety. It will be
considered as a discontinuing operation.
However, if a special resolution is passed for sale of various assets and to repay the various liabilities
individually of the tea division, it is a case of “disposing by piecemeal” and not a “discontinuing
operation”.
Note: Any planned change in the product line may not be treated as a discontinuing operation.
AS-25: INTERIM FINANCIAL REPORTING
Interim financial reporting is the reporting for periods of less than a year, generally for a period of 3
months. As per Clause 41 of listing agreement the companies are required to publish the financial results
on a quarterly basis.
AS-25 prescribe minimum content of an interim financial report and principles for recognition and
measurement in a complete or condensed financial statement for an interim period or specific dates in
respect of asset, liability, income and expense.
There are certain typical problems not faced while preparing annual account as the reporting period is
shortened, the effect of errors in estimation and allocation are magnified e.g.
i) accrual of tax credits in different interim period, makes determination of tax expense often difficult,
one period may reveal tax profit while the other interim period have tax losses;

426
ii) benefit of expenses spread beyond interim period e.g. advertising expenses, major repair and
maintenance expenses;
iii) determination of approximate amount of provisions, e.g. warranties, pension, gratuity, maybe
complex ‘and time consuming;
iv) revenue may be seasonal or cyclical, hence concentration falls in certain interim periods;
v) inter-company reconciliation, full stock-taking and valuation may be cumbersome and time
consuming;
vi) transaction based on Annual Targets e.g.: bonus or incentives would be difficult to estimate.
The standard itself does not categorize the enterprise or frequency of interim financial report and the time
limit for presentation from the end of an interim period, but if it is required to prepare and present, it
should comply with AS-25.
Instances for interim financial report:
(i) quarterly report to the board of directors or bank
(ii) incase of merger and amalgamation
(iii) for IPO purpose
(iv) for consolidation of parent and subsidiary when year ends are different
(v) for declaring interim dividend’ Accounting for interim transaction:
(a) interim period is considered as integral part of annual accounting period e.g. annual operating
expc!1ses are estimated and then allocated to the interim period based on estimated sales or
other parameters and results of subsequent interim periods are adjusted for estimation errors
(integral approach)
(b) eachinterimperiodisconsideredasdiscreteandseparateaccountingperiodlikeafullaccounting
period e.g. no estimation or allocation and operating expenses are recognized in the concerned
interim period irrespective of benefit accruing to other interim period (discrete approach).
Form and contents of interim financial statement:
a) AS25doesn’tprohibitanenterprisefrompresentingacompletesetoffinancialstatements(e.g.balance
sheet, profit loss statement, cash flow statement notes to account and accounting policies, other
statements and other explanatory’ materials as forming integral part of the financial statement).
b) The recognition and measurement principles as stated in AS-25 also apply to complete set of financial
statements for an interim period, full disclosure under this statement and other accounting standard
will be required.
c) Alternatively, the statement allows preparation and presentation ‘of interim financial report in a
condensed form, containing as a minimum, a set of condensed financial statements, providing update
on the latest annual financial statements (does not duplicate the information already reported)
Contents of a condensed Interim Financial Statements as a minimum:
1. A statement that the same accounting policies are followed as in the most recent annual financial
statements - for change, description of the nature and effect of the change.

427
Explanatory comment, about the seasonality of the interim operations the nature and amount of
items affecting assets, liability, equity, net income or cash flows that are unusual because of their
nature, size or incidence.
2. The nature and amount of changes in estimates of amounts reported in prior interim periods of the
current financial year or changes in estimates of amount reported in prior financial year - if the those
changes have a material effect in the current interim period.
3. Issues, buy-back, repayment and restructuring of debt, equity and potential equity shares.
4. Dividends, aggregate per share (in absolute or percentage) separately for equity and other shares
5. If compliance required under AS-17, segment revenue, segment capital employed and segment result
for Business or Geographical segments (whichever is primary for reporting).
6. Effect of changes in the composition of the enterprise during the interim period (e.g. amalgamation,
acquisition. or disposal of subsidiaries and long term investments, restructuring and discontinuing
operation.
7. Material change in contingent liabilities since last annual B/S date.
The above selected explanatory notes should normally be reported on a ﬁnancial year to date basis.
Period of Interim Financial Statement: interim reports should include interim ﬁnancial statements
(condensed or complete) for periods as follows:
a) Balance Sheet:
(1) As at the end of current interim period
(2) As at the end of the immediately preceding financial year
b) Statement of Profit and Loss:
(1) For the current period
(2) Cumulative for the current financial year to date
(3) Comparative for the comparable interim period (current arid year to date
c) Cash flow Statement:
(1) Current financial year to date
(2) Comparative for the comparable year to date for immediately preceding financial year.
PROBLEMS
1. S Ltd. presents interim financial report quarterly on 1.4.2008. S Ltd.has carried forward loss of Rs.800
lakhs for income tax purpose for which deferred tax asset has not been recognized. S Ltd.earns Rs. 600
lakhs; Rs.700 lakhs; Rs.750 lakhs and Rs.800 lakhs respectively in the subsequent quarters, excluding
the carried forward losses. Income tax rate is 30%. Calculate the amount of tax expense to be reported
in each quarter.
Answer: The estimated payment of the annual tax on Rs.2850 lakhs earnings for the current year =
Rs.(2,850 – 800) lakhs = Rs.2,050 lakhs.

428
Therefore, tax = 30% of Rs.2,050 lakhs = Rs.615 lakhs.
Average annual effective tax rate = (615/2,850) x 100 = 21.58%
Tax expense to be shown: Rs.lakhs
1st
quarter= 600 x 21.58%=129.48
2nd
quarter= 700 x 21.58%=151.06
3rd
quarter = 750 x 21.58%=161.85
4th
quarter = 800 x 21.58%=172.64
2. M Ltd. presents interim financial report(IFR) quarterly, earns Rs.800 lakhs pre-tax profit in the
first quarter ending 30.6.08 but expect to incur losses of Rs.250 lakhs in each of the remaining three
quarters. Effective income tax rate is 35%. Calculate the income-tax expense to be reported for each
quarter as per AS-25.
Answer: Tax expense to be reported in each of the quarters are:
1st
quarter= 800 x 35%=Rs.280.00 lakhs
2nd
quarter= (250) x 35%=Rs. (87.5)lakhs
3rd
quarter = (250) x 35%=Rs. (87.5)lakhs
4th
quarter = (250) x 35%=Rs.(87.5) lakhs
Annual Tax Expense = Rs.17.5 lakhs
AS – 26: INTANGIBLE ASSETS
An intangible asset is an identiﬁable non-monetary asset, without physical substance held for production
or supply of goods and services for rental to others or for administrative purposes.
AS-26:
(i) prescribes the accounting treatment for intangible assets that are not specifically covered in other
accounting standard;
(ii) recognizes an intangible asset on fulfillment of certain criteria;
(iii) deals with deferment of expenses except in a few specific instances.
However AS -26 does not apply to:
a) Intangible assets covered by other accounting standards e.g. AS-2 (valuation of inventories), AS-7
(accounting for construction contracts), AS-22( accounting for taxes on income), leases falling within
scope of AS-19, goodwill on amalgamation (AS-14) and on consolidation (AS-21).
b) Mineral rights and expenditure on the exploration .for or development and extraction of minerals,
oils, natural gas and similar non-generative resources and intangible assets arising in insurance
enterprises from contracts with policy holders however, computer software expenses, start up cost
pertaining to above activities are covered by AS-26).
c) Discount Premium on borrowings.
AS-26 applies, among other things, to expenditure on advertisement, training, startup, RD activities,

429
Rights under Licensing Agreement for motion picture video recording, plays, manuscript, patents and
copyrights, the criteria is that expenditure should provide future economic beneﬁts to an enterprise.
Sometimes, an asset may incorporate both tangible and intangible component and it is practically
inseparable. “Judgment is required to determine the applicability of AS-10 (ﬁxed asset) and AS-26
(intangible asset).
Example:
(1 ) computer software which is integral part and without that the computer-controlled machine cannot
operate - treated as fixed asset.
(2) computer software, not an integral part of related’ hardware - treated as. an intangible asset,
Essential criteria for recognition of an intangible asset:
a) identifiable:- It must be separate from goodwill and the enterprise could rem. sell: exchange or
distribute the future economic benefits attributable to the asset without disposing of future economic
benefits that flow from other assets in the same revenue earning activity - but goodwill cannot be
meaningfully transferred to a new owner without also selling the other assets or the operation of the
business. e.g. patents, copyrights, license, brand name, import quota, computer software, lease hold
right, marketing rights, technical know-how etc.
b) control:- The enterprise has the power to obtain the future economic benefits, flowing from the
underlying resources and also can restrict the access of others I to those benefits (not necessarily
legal right and may be in some other way – I market and technical knowledge may give rise to future
economic benefit) . I
c) future economic benefits:- An enterprise should asses the probability of future economic benefits using
reasonable and supportable assumptions that represent best estimate of the set of economic conditions
that will exist over the useful life of the asset on the basis of weight age to external evidence available
at the time of initial recognition..
d) Cost can be measured reliably :
i) Initially recognized at cost - purchase price, taxes duty and other directly attributable expenses
to make the asset ready for its intended use, if acquired separately - purchase consideration in
the form of cash or other monetary asset.
ii) In exchange for shares or securities at fair value of those shares or securities.
iii) In exchange or part exchange for another asset - as per AS-l0.
The cost of an internally generated intangible asset comprises all expenditure that can be directly attributed
or allocated on a reasonable and consistent basis for creating, producing and making the asset ready for its
intended use, but in no case once treated as an expense, cannot be reversed for capitalization even if the
essential criteria for recognition are complied with a later date.
Normally the following cost are not recognized for internally generated intangible asset:
1) selling, administrative and other general overhead unless directly attributable.
2) clearly identified inefficiencies and initial operating loses incurred before an asset achieves planned
performance.

430
3) expenditure on training the staff to operate the asset.
Subsequent expenditure on an internally generated intangible asset after its purchase or completion is
normally treated as expense unless it is assessed to generate future economic beneﬁts over and above the
originally assessed standard of performance or it can be measured and reliably attributed to the concerned
intangible asset.
Amortization is the systematic allocation of the depreciable amount (cost less residual value usually “NIL”
unless determined in terms of committed value by a third party or determined by active market price) of
an intangible asset over its useful life (period of time for use, number of production or other similar units
expected to obtain or legal restriction).
Under AS-26, useful life shall not exceed 10 years from the date the asset is available for use unless there
is persuasive evidence to establish useful life longer than 10 years provided the enterprise
(a) amortizes over the best estimated useful life
(b) estimates the recoverable amount at least annually to identify the impairment loss
(c) disclose the reasons and factors in determining a longer life.
The amortization period and the amortization method should be reviewed at least at each, ﬁnancial year
and if the expected life is revised, the amortization period is revised accordingly but in no case it would
tantamount to inappropriate deferment to later years.
AS-5 will be relevant in this regard as to what constitutes a change in accounting policy and what constitutes
a change in estimate e.g. a change from straight-line to diminishing method or vice-versa would be change
in accounting policy whereas reduction in the amortization period is change in accounting estimate.
A) General
1. for each class of intangible asset distinguishing between internally generated and others
(a) useful lives and amortization rates used
(b) amortization method used
(c) gross carrying amount and the accumulated amortization including impairment loss at the
beginning and end of the reporting period
(d) a reconciliation of the carrying amount (opening balance/addition/ disposal/impairment/
loss charged/reversed/amortization for the period and other changes)
2. class of intangible asset by grouping of a similar nature and use by the enterprise informa
tion on impaired intangible asset under AS-28 change in accounting policy or account ing
estimate as per AS-5 reasons for amortization beyond 10 years with list of factors considered
in determining the useful life.
3. Description, the carrying amount and remaining amortization period of any individual
asset what is material to the financial statement as a whole.
4. Existence and carrying amount of intangible assets whose title is restricted and the carrying
amount of intangible asset pledged as security for liabilities.

431
5. Amount of commitments for acquisition of intangible assets.
B) RD expenditure: RD expense (that is directly attributable or reasonably allocated on a consistent
basis) recognized as an expense during the period.
C) Other information: encouraged to disclose a description of only fully amortized intangible asset but
still in use.
Specific guideline for internally generated computer software - criteria for capitalization: apart from the
broad recognition principles, AS-26 provides for specific guidance on internally generated computer
software.
(a) At preliminary project stage, it is not recognized as an asset since the enterprise cannot demonstrate
then exists as an asset from which future economic benefit will follow (making strategic decision,
determination of performance requirements alternative means to achieve specified performance
requirements. determination of technology to achieve performance requirements and selection of
consultant to assist in development and/or installation of the software)
(b) At development stage involving detailed program design, coding working model in operative version
for all major planned function and testing to bring it to a completed version together with related
documentation and training material.
At this stage the internal1y generated computer software can be recognized as an asset on satisfying
1. The technical feasibility to make it available for internal use
2. Intention to complete to perform individual functions e.g. commitment for funding the project.
3. Ability to use the software
4. Usefulness of the software to generate future economic benefit
5. Availability of technical, financial and other resources to complete the development and use
6. Reliably measure the expenditure to the software development b) cost has some connotation as
described earlier in the standard.
c) Accounting for software acquired or purchased should meet with the basic principle of AS-26 as
discussed elsewhere in this standard.
For computer software considering the fact technological change and obsolescence.It is 3-5 years of useful
life, which needs to be reasoned in the disclosure.
Expenditure for Website:
The expenditure for purchasing, developing, maintaining and enhancing hardware (servers, internet
connection) related to web site are accounted for under AS-10 (fixed asset).
The expenditure may be incurred internally when developing enhancing and maintaining its own website
in the context of planning, application and infrastructure development, graphical design and content
development and operating stage which are directly attributable or allocable on a reasonable basis to
creating, producing and preparing the asset for intended use. The nature of each activity should be
evaluated to decide web site stage of development.

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Accounting treatment and recognition:
a) planning stage expenditure are akin to research cost and recognized as expense when incurred.
b) expenditure arising onward development stage complying with the development criteria (refer to
computer software) should be recognized as an Intangible asset.
PROBLEMS
1. On February 2008, J Ltd.bought a trademark from I Ltd. for Rs.50 lakhs. J Ltd. retained an independent
consultant, who estimated the trademark’s remaining life to be 14 years. Its unamortized cost on I ltd.
records was Rs.35 lakhs. J Ltd.decided to amortize the trademark over the maximum period allowed.
In J Ltd.’s Balance Sheet as on 31st
December 2008, what amount should be reported as accumulated
amortization?
Answer: As per para 23 of AS-26, intangible assets should be measured initially at cost therefore. J
Ltd. should amortize the trademark at its cost of Rs.50 lakhs. The unamortized cost on the seller’s
books Rs.35 lakhs is irrelevant to the buyer. Although the trademark has a remaining useful life of
14 years, intangible assets are generally amortized over a maximum period of 10 years as per AS-26.
Therefore, the maximum amortization expense and accumulated amortization is Rs.5 lakhs (Rs.50
lakhs/10).
2. During 2007-08, A Ltd.incurred organization costs/preliminary expenses of Rs.40,000. What portion
of the organization costs will A Ltd. defer to years subsequent to the 2007-08?
Answer: As per para 56(a) of AS-26, organization costs /preliminary expenses are those incurred in
the formation of a corporation. Since uncertainty exists concerning the future benefit of these costs in
future years, they are properly recorded as an expense in 2007-08.
3. D Ltd. is developing a new distribution system of its material, following the costs incurred at different
stages on research and development of the system:
Year ended 31.3. Phase/Expenses Amount(Rs. In lakhs)
2004 Research 8
2005 Research 10
2006 Development 30
2007 Development 36
2008 Development 50
On 31.3.08, D Ltd. identified the level of cost savings at Rs. 16 lakhs expected to be achieved by the
new system over a period of 5 years, in addition this system developed can be marketed by way
of consultancy which will earn cash flow of Rs.10 lakhs per annum. D Ltd.demonstrated that new
system meet the criteria of asset recognition as on 1.4.2006.
Determine the amount/cash which will be expensed and to be capitalized as intangible assets,
presuming that no active market exist to determine the selling price of product i.e. system developed.
System shall be available for use from 1.4.2008.
Answer: As per AS-26, research cost of Rs.18 lakhs to be treated as an expense in respective year
ended 31st
March 2004 and 2005 respectively.

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The development expenses can be capitalized from the date the internally generated assets ( new
distribution system in this given case) meet the recognition criteria on and from 1.4.2006. Therefore,
cost of Rs.30+ 36+ 50= Rs.116 lakhs is to be capitalized as an intangible asset.
However, as per para 62 of AS-26, the intangible asset should be carried at cost less accumulated
amortization and accumulated impairment losses.
At the end of 31st
March,2008, D Ltd. should recognize impairment loss of Rs.22.322 lakhs (= 116
- 93.678) and carry the new distribution system at Rs. 93.678 lakhs in the Balance Sheet as per the
calculation given below:
Impairment loss is excess of carrying amount of asset over recoverable amount. Recoverable amount is
higher of two i.e. value in use( discounted future cash inflow) and market realizable value of asset.
The calculation of discounted future cash flow is as under assuming 12% discount rate.
(Rs. Lakhs)
Year Cost Savings Inflow by
introducing
the system
Total cash
inflow
Discounted at
12%
Discounted
cash flow
2009 16 10 26 0.893 23.218
2010 16 10 26 0.797 20.722
2011 16 10 26 0.711 18.486
2012 16 10 26 0.635 16.51
2013 16 10 26 0.567 14.742
93.678
No amortization of asset shall be done in 2008 as amortization starts after use of asset which is during
the year 2008-09.
AS-27: FINANCIAL REPORTING OF INTEREST IN JOINT VENTURE
AS-27 is applicable for accounting in joint venture interest and reporting of joint venture assets, liabilities,
income and expenses in the financial statements of venturer and investors, regardless of the structure or
forms under which the joint venture activities take place,
The statement provides for display and disclosure requirement for accounting for the investment in the
stand-alone and consolidated financial statements of the venturer.
A joint venture is a contractual arrangement between two or more parties undertaking an economic
activity, subject to joint control (control is the power to govern the financial and operating policies of an
economic activity to obtain benefit from it).
The arrangement may be:
a) Jointly controlled operations
b) Jointly controlled asset
c) Jointly controlled entities

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In the event an enterprise by a contractual arrangement establishes joint control over an entity which is a
subsidiary of that enterprise within the meaning of AS-21(CFS), it will be treated as joint venture as per
AS-27. Joint control requires all the venturers to jointly agree on key decisions, else decision cannot be
taken, as such even a minority holder (owner) may enjoy joint control.
Contractual arrangement is normally made in writing touching upon:
(a) The activity, duration and reporting obligation
(b) The appointment of the board of director/governing body and the respective voting rights/
capital contribution/sharing by ventures of the output, income, expenses or results of the joint
venture.
Contractual arrangement and joint control together makes an activity a joint venture, (investment in
Associates in which the investor has significant influence is covered by AS-23)
Some joint ventures involve use of own fixed assets and other resources on its own and obligation of its
own.
For its interest in jointly controlled operations, a venturer should recognize in its separate financial
statements and consequently in its CFS,
(a) the assets that it controls and the liabilities it incurs
(b) the expense it incurs and the share of income earned from the joint venture.
As the above are already recognized in stand-alone financial statements of the venturer and consequently
in the CFS, there us no requirement for adjustment or other consolidation procedure, when the venturer
present the CFS. Separate accounting records may not be required for the joint venture itself and financial
statements may not be prepared for the joint venture.
Some joint ventures involve joint control; by means of joint ownership by the venturers of one or more
assets contributed/acquired for the purpose of joint venture - the asset are used to obtain economic benefit
for the venturers, agreeing to share the output from the assets and sharing of expenses incurred.
In respect of jointly controlled assets, each venturer recognize in its separate financial statement and
consequently in its CFS:
a) Share of the jointly controlled assets under distinct head of each asset and not as an investment
b) Any liability incurred (e.g. financing its share of the assets)
c) Share of joint liability in respect of the venturer
d) Any income from sale or use of its share of the output in the joint venture and share of expenses.
e) Expense is incurred in respect of its in the joint ventures e.g. financing the venturer’s interests in
the asset and selling its share of output The treatment of jointly controlled assets, recognizes the
substance and economic reality (legal from of the joint venture) separate financial statements may
not be prepared for the joint venture itself.
A jointly controlled entity involves the establishment of a corporation, partnership or lither entity in
which each venturer has an interest as per contractual arrangement.
a) in a separate/stand alone financial statement of each venturer, the interest in a jointly controlled entity
should be accounted for as an investment as per AS-13 only the resources contributed, forms a part of the
investment and the share’ of joint venture result is treated in the income statement of the venturers.

435
b) proportionate consolidation for joint venture is applied in case where the preparation and presenting a
CFS is required, reflecting the substance and economic reality of the arrangement in the CFS. Many of the
procedure in this regard are similar to AS-21 and require to be followed for treatment and disclosure.
Joint venture interest in the financial statements, of an investor is treated appropriately in terms of AS-13,
AS-21 or AS-23 in CFS but for separate financial statements is should be accounted for as per AS-13.
I. In separate and CFS in respect of:
a) Aggregate amount of contingent liabilities unless the probability of loss is remote separately
from other contingent liabilities in relation to:
1. Its interest in joint venture and its share in each of the contingent liabilities incurred
jointly
2. Itsshareofthecontingentliabilityofthejointventuresthemselvesforwhichitiscontingently
liable.
3. Those liabilities which arise because of the venturer is contingently liable for the liability of
other venturers.
b) Aggregate of commitments in respect of joint venture separately from other commitments in
respect of:
1. Capital commitment of its own and shares in the capital commitment incurred jointly with
other ventures in relation to the joint venture.
2. Share of capital commitment of the joint ventures themselves
c) A list of all joint ventures and description of interest in significant joint venture and for jointly
controlled entities the properties of ownership interest name of the country of incorporation/
residence.
PROBLEMS
1. N Ltd has 80% shares in a joint venture with Suzuki Ltd. N Ltd. sold a plant WDV Rs.20 lakhs for
Rs.30 lakhs. Calculate how much profit N Ltd. should recognize in its book in case joint venture is:
(a) jointly controlled operation;
(b) jointly controlled asset;
(c) jointly controlled entity.
Answer: As per AS-27, in case of jointly controlled operation and jointly controlled assets joint
venture, the venture should recognize the profit to the extent of other venturer’s interest.
In the given case, N Ltd. should recognize profit of:
= Rs.(30 – 20)lakhs = Rs.10 x 20%= Rs.2 lakhs only.
However, in case of jointly controlled entities N Ltd. should recognize full profit of Rs.10 lakhs in its
separate financial statement. However, while preparing consolidated financial statement it should
recognize the profit only to the extent of 20% i.e. Rs. 2 lakhs only.

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AS-28: IMPAIRMENT OF ASSETS
An asset is impaired if its carrying amount exceeds the amount to be recovered through use or sale of the
asset and given the situation the standard requires the enterprise to recognize an impairment loss i.e. the
amount by which the carrying amount of an asset exceeds its recoverable amount.
Impairment loss is a normal expense and thus will have impact on distributable profit and other provisions
of the company’s act and applicable enactment (Acceptance of Deposit Rules, BIFR etc)
Impairment loss may be discussed in the following areas:
1) Impairment loss on a specific asset;
2) Impairment loss for a cash generating unit;
3) Impairment loss for discontinuing operation.
Impairment Loss = Carrying amount of the Asset – Recoverable amount.
Carrying amount is the amount at which asset is shown in the Balance Sheet.
Recoverable amount of an asset is higher of:
Net selling price
Value in use
Net Selling Price= Expected realizable value of an asset – cost of disposal
Net Selling price can be obtained from:
Active market for the asset
Binding sale agreement
Best estimate based on information
Value in Use= Present value of estimated future cash flow arising from the use of asset + residual value
at the end of its useful life.
Present value is calculated by applying discount rate to future cash flows.
Estimated cash flows includes :
Cash inflows from continuing use of the asset
Projected cash outflows to generate cash inflows from continuing use of the asset.
Net cash flows if any to be received( or paid) for the disposal of the asset at the end of its useful life.
Estimated cash flows excludes:
Cash flows from financing activities
Payment /refund of income tax
Discount rate: It is the cost of capital to be applied to calculate the present value of estimated cash flows
and is based on the following factors:
Pre-tax rate

437
Current market assessment of time value of money after considering specific risk of the asset.
Enterprises weighted average cost of capital or incremental financial cost.
The current rate of inflation is also considered.
AS-28 does not apply to:
inventories (as per AS 2);
construction contract assets ( as per AS 7);
deferred tax assets (as per AS 22);
investments covered by AS-13 and financial instruments, because other AS provide for recognizing
and measuring these assets.
1) Assessment for impairment of assets needs to be made at the B/S date: as to any indication in this
context based on external or internal source of information.
External sources:
Market value changes with passage of time or normal use (typewriter on invention of computer)
Adverse effect in the light of technological, market, economic, or legal environment in which the
enterprise operates.
Change in market rate of interest or returns on investment affect the discount rates used to assess an
assets value in use (if the effect is not a short-term phenomenon).
Carrying amount of the net asset, exceeds its market capitalization (determined by future growth,
profitability, threat of new products/entrants etc).
Internal sources:
Obsolescence /physical damage is evident.
Indication obtained internally that economic performance of an asset has worsened or likely to worse
than expected.
Continuous cash loss may indicate that one or more of the business division is impaired.
Assessment for impairment should be made on individual asset basis, except when;
(i) The asset value in use cannot be estimated to be close to the net se1ling price i.e. future cash flow
from continuing use of the asset cannot be estimated to be negligible or there is no plan to dispose of
the assets in near future.
(ii) The asset does not generate cash inflows from continuing use that are largely independent of those
from other assets.
In the exceptional case as above, the value in use/recoverable amount can be determined with regard
assets cash generating units (generate cash inﬂows from outside the reporting enterprise and independent
of cash inﬂows from other assets / group of assets.
2) Impairment Loss to a cash generating unit :
Cash generating unit (CGU): The smallest group of an asset for which cash flows can be determined
independently.

438
Even if the cash flows can determined independently, aggregation of cash generating units becomes
necessary in some situations.
To determine impairment loss of a CGU, we have to follow ‘bottom up’ or ‘top down’ test.
[These two tests are discussed in Paper 16: Advanced Financial Accounting and Reporting, in
details.]
3) Impairment Loss for discontinuing operation :
In this type of situation, the impairment loss shall depend on the way the discontinuing operation is
disposed off:
a) substantially in its entirety;
b) as piecemeal sales;
c) by abandonment.
PROBLEMS
1. X Ltd.purchased a machinery on 1.1.2002 for Rs.20 lakhs. WDV of the machine as on 31.3.08 Rs.12
lakhs. The Recoverable amount of the machine is Rs.11 lakhs. What is the impairment loss?
Answer: Impairment Loss = Carrying amount – Recoverable Amount
= Rs.12 lakhs – Rs.11 lakhs = Rs. 1 lakh.
2. Carrying amount Rs.200 lakhs. Net Selling Price Rs.210 lakhs. Value in use Rs. 220 lakhs. What is the
impairment loss?
Answer: Carrying amount Rs.200 lakhs
Recoverable amount Rs. 220 lakhs (being the higher of net selling price and value in use)
Since, recoverable amount is more than carrying amount of the asset, there will arise no impairment
loss.
3. C Ltd.acquired a machine for Rs.3.2 crores on 1.1.2005. It has a life of 5 years with a salvage value of
Rs.40 lakhs. Apply the test of impairment on 31.3.2008:
(a) Present value of future cash flow Rs.1.3 crores
(b) Net selling price Rs.1.2crores
Answer: Carrying amount of the asset: [3.2 – (3.2 – 0.4) x 39/60] = 1.38 crores.
Time period for use of the asset: 1.1.2005 to 31.3.2008 = 39 months
Total life period of the asset= 5 years = 60 months.
Recoverable amount: being the higher of present value and net selling price = Rs.1.3 crores.
Impairment Loss= Rs(1.38 – 1.3) crores= Rs.0.08 crores.
AS 29: PROVISIONS, CONTINGENT LIABILITIES AND CONTINGENT ASSETS
The objective of this Standard is to ensure that appropriate recognition criteria and measurement bases
are applied to provisions and contingent liabilities and that sufﬁcient information is disclosed in the notes
to the ﬁnancial statements to enable users to understand their nature, timing and amount.

439
The objective of this Standard is also to lay down appropriate accounting for contingent assets.
This standard is not applicable to:
Financial instruments carried at fair value
Insurance enterprises
Contract under which neither party has performed any of its obligations or both parties have partially
performed their obligation to an equal extent
AS 7,AS 15,AS 19 and AS 22.
A provision is a liability which can be measured only by using a substantial degree of estimation.
A liability is a present obligation of the enterprise arising from past events, the settlement of which is
expected to result in an outflow from the enterprise of resources embodying economic benefits.
An obligating event is an event that creates an obligation that results in an enterprise having no realistic
alternative to settling that obligation.
A contingent liability is:
(a) a possible obligation that arises from past events and the existence of which will be confirmed only
by the occurrence or non-occurrence of one or more uncertain future events not wholly within the
control of the enterprise; or
(b) a present obligation that arises from past events but is not recognized because:
(i) it is not probable that an outflow of resources embodying economic benefits will be required to
settle the obligation;
or
(ii) a reliable estimate of the amount of the obligation cannot be made.
A contingent asset is a possible asset that arises from past events the existence of which will be confirmed
only by the occurrence or nonoccurrence of one or more uncertain future events not wholly within the
control of the enterprise.
Present obligation - an obligation is a present obligation if, based on the evidence available, its existence
at the balance sheet date is considered probable, i.e., more likely than not.
Possible obligation - an obligation is a possible obligation if, based on the evidence available, its existence
at the balance sheet date is considered not probable.
A restructuring is a programme that is planned and controlled by management, and materially changes
either:
(a) the scope of a business undertaken by an enterprise; or
(b) the manner in which that business is conducted.
Past Event- A past event that leads to a present obligation is called an obligating event. For an event to be
an obligating event, it is necessary that the enterprise has no realistic alternative to settling the obligation
created by the event.

440
Best Estimate: The amount recognized as a provision should be the best estimate of the expenditure
required to settle the present obligation at the balance sheet date. The amount of a provision should not
be discounted to its present value.
Risks and Uncertainties: The risks and uncertainties that inevitably surround many events and
circumstances should be taken into account in reaching the best estimate of a provision.
Future Events : Future events that may affect the amount required to settle an obligation should be
reﬂected in the amount of a provision where there is sufﬁcient objective evidence that they will occur.
Disclosure:
For each class of provision, an enterprise should disclose:
(a) the carrying amount at the beginning and end of the period;
(b) additional provisions made in the period, including increases to existing provisions;
(c) amounts used (i.e. incurred and charged against the provision) during the period; and
(d) unused amounts reversed during the period.
An enterprise should disclose the following for each class of provision:
(a) a brief description of the nature of the obligation and the expected timing of any resulting outflows
of economic benefits;
(b) an indication of the uncertainties about those outflows. Where necessary to provide adequate
information, an enterprise should disclose the major assumptions made concerning future events, as
addressed in paragraph 41; and
(c) the amount of any expected reimbursement, stating the amount of any asset that has been recognised
for that expected reimbursement.
PROBLEMS
1. There is a income tax demand of Rs.2.5 lakhs against the company relating to prior years against
which the company has gone on appeal to the appellate authority in the department. The ground of
appeal deals with the points covering Rs.1.8 lakhs of the demand. State how the matter will have to
be dealt with in the financial account for the year.
Answer: A provision of Rs.0.7 lakhs and a contingent liability of Rs. 1.8 lakhs should be provided in
the financial accounts for the year.
2. A company follows a policy of refunding money to the dissatisfied customers if they claim within
15 days from the date of purchase and return the goods. It appears from the past experience that in
a month only 0.10% of the customers claim refunds. The company sold goods amounting to Rs.20
lakhs during the last month of the financial year. Is there any contingency?
Answer: There is a probable present obligation as a result of past obligating event. The obligating
event is the sale of the product. Provision should be recognized as per AS-29. The best estimate for
provision is Rs. 2,000 ( Rs.20 lakhs x 0.1%).

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AS-30: Financial Instruments: Recognition and Measurement
The objective of this Standard is to establish principles for recognising and measuring financial assets,
financial liabilities and some contracts to buy or sell non-financial items.
Requirements for presenting information about financial instruments are in Accounting Standard (AS) 31,
Financial Instruments: Presentation. Requirements for disclosing information about financial instruments
are in Accounting Standard (AS) 32, Financial Instruments:
Definitions:
The terms defined in AS 31, Financial Instruments: Presentation are used in this Standard with the meanings
specified in paragraph 7 of AS 31. AS 31 defines the following terms:
financial instrument
financial asset
financial liability
equity instrument
and provides guidance on applying those definitions.
Definition of a Derivative:
A derivative is a financial instrument or other contract within the scope of this Standard with all three of
the following characteristics:
(a) its value changes in response to the change in a specified interest rate, financial instrument price,
commodity price, foreign exchange rate, index of prices or rates, credit rating or credit index, or other
variable, provided in the case of a non-financial variable that the variable is not specific to a party to
the contract (sometimes called the ‘underlying’);
(b) it requires no initial net investment or an initial net investment that is smaller than would be required
for other types of contracts that would be expected to have a similar response to changes in market
factors; and
(c) it is settled at a future date.
Definitions of Four Categories of Financial Instruments :
A financial asset or financial liability at fair value through profit or loss is a financial asset or financial
liability that meets either of the following conditions.
(a) It is classified as held for trading. A financial asset or financial liability is classified as held for trading
if it is:
(i) acquired or incurred principally for the purpose of selling or repurchasing it in the near term;
or
(ii) part of a portfolio of identified financial instruments that are managed together and for which
there is evidence of a recent actual pattern of short-term profit-taking; or
(iii) a derivative (except for a derivative that is a financial guarantee contract or a designated and
effective hedging instrument).

442
(b) Upon initial recognition it is designated by the entity as at fair value through profit or loss.
Accounting Standard (AS) 32, Financial Instruments: Disclosures , requires the entity to provide disclosures
about financial assets and financial liabilities it has designated as at fair value through profit or loss,
including how it has satisfied these conditions.
Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments
and fixed maturity that an entity has the positive intention and ability to hold to maturity other than:
(a) those that the entity upon initial recognition designates as at fair value through profit or loss;
(b) those that meet the definition of loans and receivables; and
(c) those that the entity designates as available for sale.
An entity should not classify any financial assets as held to maturity if the entity has, during the current
financial year or during the two preceding financial years, sold or reclassified more than an insignificant
amount of held-to-maturity investments before maturity (more than insignificant in relation to the total
amount of held-to-maturity investments) other than sales or reclassifications
Loans and receivables are non-derivative financial assets with fixed or determinable payments that are
not quoted in an active market, other than:
(a) those that the entity intends to sell immediately or in the near term, which should be classified as
held for trading, and those that the entity upon initial recognition designates as at fair value through
profit or loss;
(b) those that the entity upon initial recognition designates as available for sale; or
(c) those for which the holder may not recover substantially all of its initial investment, other than
because of credit deterioration, which should be classified as available for sale.
Available-for-sale financial assets are those non-derivative financial assets that are designated as available
for sale or are not classified as (a) loans and receivables, (b) held-to-maturity investments, or (c) financial
assets at fair value through profit or loss.
Definition of a financial guarantee contract
A financial guarantee contract is a contract that requires the issuer to make specified payments to reimburse
the holder for a loss it incurs because a specified debtor fails to make payment when due in accordance
with the original or modified terms of a debt instrument.
Definitions Relating to Recognition and Measurement
The amortised cost of a financial asset or financial liability is the amount at which the financial asset
or financial liability is measured at initial recognition minus principal repayments, plus or minus the
cumulative amortisation using the effective interest method of any difference between that initial amount
and the maturity amount, and minus any reduction (directly or through the use of an allowance account)
for impairment or uncollectibility.
The effective interest method is a method of calculating the amortised cost of a financial asset or a financial
liability (or group of financial assets or financial liabilities) and of allocating the interest income or interest
expense over the relevant period.

443
The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts
through the expected life of the financial instrument or, when appropriate, a shorter period to the net
carrying amount of the financial asset or financial liability.
Derecognition is the removal of a previously recognised financial asset or financial liability from an
entity’s balance sheet.
Fairvalueistheamountforwhichanassetcouldbeexchanged,oraliabilitysettled,betweenknowledgeable,
willing parties in an arm’s length transaction.
A regular way purchase or sale is a purchase or sale of a financial asset under a contract whose terms
require delivery of the asset within the time frame established generally by regulation or convention in
the marketplace concerned.
Transaction costs are incremental costs that are directly attributable to the acquisition, issue or disposal
of a financial asset or financial liability. An incremental cost is one that would not have been incurred if
the entity had not acquired, issued or disposed of the financial instrument.
Definitions Relating to Hedge Accounting
A firm commitment is a binding agreement for the exchange of a specified quantity of resources at a
specified price on a specified future date or dates.
A forecast transaction is an uncommitted but anticipated future transaction.
Functional currency is the currency of the primary economic environment in which the entity operates.
A hedging instrument is (a) a designated derivative or (b) for a hedge of the risk of changes in foreign
currency exchange rates only, a designated non-derivative financial asset or non-derivative financial
liability whose fair value or cash flows are expected to offset changes in the fair value or cash flows of a
designated hedged item.
A hedged item is an asset, liability, firm commitment, highly probable forecast transaction or net
investment in a foreign operation that (a) exposes the entity to risk of changes in fair value or future cash
flows and (b) is designated as being hedged.
Hedge effectiveness is the degree to which changes in the fair value or cash flows of the hedged item
that are attributable to a hedged risk are offset by changes in the fair value or cash flows of the hedging
instrument.
Embedded Derivative:
An embedded derivative is a component of a hybrid (combined) instrument that also includes a non-
derivative host contract—with the effect that some of the cash flows of the combined instrument vary in a
way similar to a stand-alone derivative.
AS 31: Financial Instruments: Presentation
The objective of this Standard is to establish principles for presenting financial instruments as liabilities or
equity and for offsetting financial assets and financial liabilities. It applies to the classification of financial
instruments, from the perspective of the issuer, into financial assets, financial liabilities and equity
instruments; the classification of related interest, dividends, losses and gains; and the circumstances in
which financial assets and financial liabilities should be offset.

444
The principles in this Standard complement the principles for recognising and measuring financial assets
and financial liabilities in Accounting Standard (AS) 30.
Definitions
A financial instrument is any contract that gives rise to a financial asset of one entity and a financial
liability or equity instrument of another entity.
A financial asset is any asset that is:
(a) cash;
(b) an equity instrument of another entity;
(c) a contractual right:
(i) to receive cash or another financial asset from another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under conditions
that are potentially favourable to the entity; or
(d) a contract that will or may be settled in the entity’s own equity instruments and is:
(i) a non-derivative for which the entity is or may be obliged to receive a variable number of the
entity’s own equity instruments; or
(ii) a derivative that will or may be settled other than by the exchange of a fixed amount of cash
or another financial asset for a fixed number of the entity’s own equity instruments. For this
purpose the entity’s own equity instruments do not include instruments that are themselves
contracts for the future receipt or delivery of the entity’s own equity instruments.
A financial liability is any liability that is:
(a) a contractual obligation:
(i) to deliver cash or another financial asset to another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under conditions that are
potentially unfavourable to the entity; or
(b) a contract that will or may be settled in the entity’s own equity instruments and is:
(i) a non-derivative for which the entity is or may be obliged to deliver a variable number of the
entity’s own equity instruments; or
(ii) a derivative that will or may be settled other than by the exchange of a fixed amount of cash
or another financial asset for a fixed number of the entity ’s own equity instruments. For this
purpose the entity’s own equity instruments do not include instruments that are themselves
contracts for the future receipt or delivery of the entity’s own equity instruments.
An equity instrument is any contract that evidences a residual interest in the assets of an entity after
deducting all of its liabilities.
Fairvalueistheamountforwhichanassetcouldbeexchanged,oraliabilitysettled,betweenknowledgeable,
willing parties in an arm’s length transaction.

445
Financial Instruments: Recognition and Measurement and are used in this Standard with the meaning
specified in AS 30.
amortised cost of a financial asset or financial liability
available-for-sale financial assets
derecognition
derivative
effective interest method
financial asset or financial liability at fair value through profit or loss
financial guarantee contract
firm commitment
forecast transaction
hedge effectiveness
hedged item
hedging instrument
held-to-maturity investments
loans and receivables
regular way purchase or sale
transaction costs.
In this Standard, ‘contract’ and ‘contractual’ refer to an agreement between two or more parties that has
clear economic consequences that the parties have little, if any, discretion to avoid, usually because the
agreement is enforceable by law. Contracts, and thus financial instruments, may take a variety of forms
and need not be in writing.
In this Standard, ‘entity’ includes individuals, partnerships, incorporated bodies, trusts and government
agencies.
AS 32: Financial Instruments: Disclosures
The objective of this Standard is to require entities to provide disclosures in their financial statements that
enable users to evaluate:
(a) the significance of financial instruments for the entity’s financial position and performance; and
(b) the nature and extent of risks arising from financial instruments to which the entity is exposed during
the period and at the reporting date, and how the entity manages those risks.
The principles in this Accounting Standard complement the principles for recognising, measuring and
presenting financial assets and financial liabilities in Accounting Standard
(AS) 30, Financial Instruments: Recognition and Measurement and Accounting Standard (AS) 31, Financial
Instruments: Presentation.

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Significance of financial instruments for financial position and performance
An entity should disclose information that enables users of its financial statements to evaluate the
significance of financial instruments for its financial position and performance.
Balance sheet
Categories of financial assets and financial liabilities
The carrying amounts of each of the following categories, as defined in AS 30, should be disclosed either
on the face of the balance sheet or in the notes:
(a) financial assets at fair value through profit or loss, showing separately
(i) those designated as such upon initial recognition and
(ii) those classified as held for trading in accordance with AS 30;
(b) held-to-maturity investments;
(c) loans and receivables;
(d) available-for-sale financial assets;
(e) financial liabilities at fair value through profit or loss, showing separately
(i) those designated as such upon initial recognition and
(ii)those classified asheld for trading in accordance with AS 30; and
(f) financial liabilities measured at amortised cost.
Financial assets or financial liabilities at fair value through profit or loss
If the entity has designated a loan or receivable (or group of loans or receivables) as at fair value through
profit or loss, it should disclose:
(a) the maximum exposure to credit risk of the loan or receivable (or group of loans or receivables) at the
reporting date.
(b) the amount by which any related credit derivatives or similar instruments mitigate that maximum
exposure to credit risk.
(c) the amount of change, during the period and cumulatively, in the fair value of the loan or receivable
(or group of loans or receivables) that is attributable to changes in the credit risk of the financial asset
determined either:
(i) as the amount of change in its fair value that is not attributable to changes in market conditions
that give rise to market risk; or
(ii) using an alternative method the entity believes more faithfully represents the amount of change
in its fair value that is attributable to changes in the credit risk of the asset. Changes in market
conditions that give rise to market risk include changes in an observed (benchmark) interest
rate, commodity price, foreign exchange rate or index of prices or rates.
(d) the amount of the change in the fair value of any related credit derivatives or similar instruments that
has occurred during the period and cumulatively since the loan or receivable was designated.

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If the entity has designated a financial liability as at fair value through profit or loss in accordance with
AS 30, it should disclose:
(a) the amount of change, during the period and cumulatively, in the fair value of the financial liability
that is attributable to changes in the credit risk of that liability determined either:
(i) as the amount of change in its fair value that is not attributable to changes in market conditions
that give rise to market risk ,or
(ii) using an alternative method the entity believes more faithfully represents the amount of change
in its fair value that is attributable to changes in the credit risk of the liability.
Changes in market conditions that give rise to market risk include changes in a benchmark interest rate,
the price of another entity’s financial instrument, a commodity price, a foreign exchange rate or an index
of prices or rates. For contracts that include a unit-linking feature, changes in market conditions include
changes in the performance of the related internal or external investment fund.
(b) the difference between the financial liability’s carrying amount and the amount the entity would be
contractually required to pay at maturity to the holder of the obligation.
Reclassification
If the entity has reclassified a financial asset as one measured:
(a) at cost or amortised cost, rather than at fair value; or
(b) at fair value, rather than at cost or amortised cost,
itshoulddisclosetheamountreclassifiedintoandoutofeachcategoryandthereasonforthatreclassification
.
5.3 Financial Reporting across the world
There are major international differences in accounting practices in reporting across the world. By the
term “ Accounting system”, we mean the set of financial reporting practices used by a particular company
for an annual report.
The factor that impact accounting development at the national level also contribute to accounting diversity
at the international level.
Environmental factors may be broadly classified as:
1) The type of capital market
2) Diversify taxation and financial reporting
If the legal framework allows two sets of reporting, one for taxation where profits are understated
to minimize taxation, and external reporting is legally allowed to be presented on glossier terms to
attract investment.
3) Size of business houses
Larger business houses, consisting of large variety of products, employing thousands of people and
operating in many countries, characterize developed countries. Financial reporting in these countries
will be detailed and complete since it is needed to capture the economic substance of the entities

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of these economies. They are therefore very different from financial reporting rules sufficient for
smaller and less complex entities.
4) Legal system
The legal system in countries like Rome, Germany, France etc. may be called the code – law type
where accounting is regulated mainly through an account code, which tends to be highly detailed,
prescriptive, procedural and is generally set by the legislature. The emphasis is on protection of
creditors of the company. This is in contrast to the common law countries like United Kingdom,
U.S.A. and Australia accounting regulations are set on a procedural basis, typically by a private
sector standard setting body, with emphasis on presenting a true and fair picture to shareholders.
This type of reporting is more timely and transparent, and regarded as being more adaptive and
innovative.
Level of enforcement: Where stringent enforcement prevails, accounting and reporting practices are
largely in compliance with regulatory requirements. In some countries, political patronage and proximity
to the ruling group enables business entities to circumvent existing financial reporting requirements.
Investors who assumed there was compliance when there was actually not, suffered sufficient losses
when the true financial position of such flouting companies was disclosed.
Sometimes, countries that adopted accounting standards of other countries do not have the resources to
implement and enforce the standards. Business entities need trained personnel to apply these standards,
while regulatory agencies need adequate budgets to monitor compliance. When countries lack these
resources, there is a gap between the requirements and actual practice.
Inflation Levels:
Countries such as U.K. and U.S. who usually keep inflation under check, tend to use the historic cost
model, where as countries like Bolivia and Mexico, have to use inflation – adjusted models of Financial
reporting to provide more decision – relevant information.
Political and economic ties:
Where a country was colonized for an extended period of time, it typically adopted the accounting system
of the colonial power. Singapore and Malaysia continued with the British system and Philippines, with
the U.S system, even after gaining independence, where as Indonesia discarded its pre – independence
Dutch system in favour of the U.S. model after independence.
Status of the accounting profession:
In common law countries like the U.S., Canada and U.K, accounting is held in high esteem as a profession.
In such countries the accounting profession is largely self regulating and plays a major role in setting
accounting and auditing standards, as well as establishing educational and licensing requirements for
entering and staying in the profession. In code law countries like France and Germany, the accounting
profession has considerably less statute and power, and the Government takes the lead role in regulating
the profession. In yet other countries like Russia, accounting has historically been equated with book –
keeping a clerical task.
Quality of Accounting Education:
In some countries, there is a long history of including accounting as a very important course, attracting
some of the country’s best talent. This in turn, produces quality in the accounting practices. Other countries
which treat accounting as a clerical vocation get into a vision cycle of non-improvement in the country’s
accounting/regulatory bodies.

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Classification of Financial Accounting and Reporting system:
Classifications should reveal fundamental structures that countries belonging to a group have in common
and that distinguish them from countries in other groups. Many groups of researchers have made attempts
for a meaningful classification. The best among them in Nobes’ Classification of accounting system which
is presented below.
Multinational companies are likely to use transnational accounting practices.
Global harmonization:
Having understood the causes for differences and suitably classifying the accounting system across the
world, it is necessary to achieve harmony or uniformity in the accounting system. This is the need of the
hour, considering the levels of multi-nationalisation and tele-communication, which are really shrinking
the world.
Harmony will ensure easy comparability, which is essential in the context of global funding and multi-
national companies regulators who monitor capital markets, and the securities industries (including stock
exchanges).
Definition:
Harmonisation may be defined as the process aimed at enhancing the comparability of financial statements
produced in different countries’ accounting regulations.
The following are the main organizations that are involved in global accounting harmonization
i) IASC: The International Accounting Standards Committee is an independent private sector
organization that was established in 1973 by professional accounting organizations from 10 countries
– Australia, Canada, France, Germany, Ireland, Japan, Mexico, The Netherlands, The U.K and the
U.S. Now, more than 140 countries are members of the IASC. The objectives of the IASC are:
To formulate and publish in the public interest accounting standards to the observed in
the presentation of financial statements and to promote their world wide acceptance and
observance.
To work generally for the improvement and harmonization of regulations, accounting standards
and procedures relating to the presentation of financial statements.
IAS 1 to 39 for the various accounting standards issued by the IASC.
IASC is supported by international organization of securities commission (IOSCO), which consists of
representatives of the securities regulatory organizations in over 60 countries. Where IASC lacks the
authority to enforce its standards globally, IOSCO helps by enforcing these standards in its member
countries.
The International Federation of Accountants (IFAC):
This is a body of national professional accounting organization that represents accountants employed
in public practice, business and industry , the public sector and education as well as some specialized
groups that interface frequently with the profession. It was formed in 1997 to develop the profession and
harmonise its standards world wide to enable public accountant to provide good services in the public
interest. Currently, IFAC has about 150 member organizations in 103 countries, representing 2 million
accountants.

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IFAC issues International Standards on Auditing (ISA) that are aimed at harmonizing auditing practices
globally.
Another initiative of the IFAC is the establishment of international public sector standards applicable to
all levels of government. IFAC has also spearheaded the organization of a forum on the development of
the accounting profession, bringing together, various development banks and agencies, to determine how
best to marshal the combined resources of the accounting profession, local and national governments and
development agencies to meet the basic needs for an accounting framework in developing countries.
The IFAC may also be credited with reports to maintain auditor’s independence in today’s complex and
competitive business environment.
International Organisation of Securities Commission (IOSCO)
It was formed in 1983 and is comprised of securities regulators from more than 115 securities regulatory
agencies from around the world and about 85% of world’s capital markets. Its general secretariat is based
in Montreal. IOSCO strives to promote high standards of regulations to maintain just efficient sound
markets with integrity by establishing standards and surveillance of international securities transactions
and ensuring enforcement of the standards.
IOSCO has already endorsed half the IASC standards, and is in the process of endorsing the remaining,
subject to its satisfying itself with a comprehensive core set of high quality accounting standards.
United Nations:
Initially in the 1970’s, the UN has its group of experts on ISA and …………… produce a list of financial
and non-financial disclosures to be provided by multinational companies. The list was detailed and
included requirements for disclosure of transfer pricing policies, segment information, RD expenditure
and employee information. Those being proprietary in nature, the recommendations were rejected by
most industrialized countries. More recently, the UN has worked to harmonise the accounting standards
by discussing and supporting best practices, including those stipulated by the IASC. It has focused on
issues such as environmental disclosures. The UN has provided funding a technical assistance towards a
sound financial reporting regime in accordance with international standards, in a number of Communist
bloc countries which lacked such initiative.
Organisation For Economic Corpotation And Development (OECD):
The OECD comprises 29 member countries producing two-thirds of the world’s goods and services.
It has an adhoc working group on accounting standards which supports current efforts on accounting
harmonization by international, regional and national bodies and the UN.
Harmonisation scenarios:
Bilateral MDS ( Multi-Jurisdictional disclosure system)
SEC Canadian regulatory authorities.
World class issuer:
NYSC promotes criteria eg. Revenue/market capitalisation/Weekly trading volume so that such ……….
(Global Blue chip companies) enter U.S. market with less risk to U.S. investors. This is not a welcome
step.

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The G4+1 initiave:
This is one of the several groupings of national standard setting bodies; originally consisted of standard
setters in Australia, Canada, UK, US and started as a forum to exchange ideas, information and experiences.
IASC joined this and hence the name +1. New Zealand lake joined this group. The G4+1 has supported the
IASC, which in turn co-operates with the G4+1.
Major achievements in harmonistaion:
IASC has proved its acceptability with statistically increasing number of standards and countries following
them. They remain to be vetted and endorsed by the IOSCO and SFC.
The EU is mainly backed by the EEC (Treaty of Rome, 1957), which was signed by 6 countries – Belgium,
France, Germany, Italy, Luxemburg and The Netherlands; and by later admission, Denmark, Republic of
Ireland, The UK, Greece, Spain, Portugal, Sweden, Finland and Austria. The objective of the EU is to bring
about a common market which allows for free mobility of capital goods, and people between member
countries.
The EU company law and directives ensure uniformity in law in the member countries. The fourth
directives addresses all aspects of financial statements of individual companies. The seventh directive
addresses the issue of consolidated financial statements and generally followed the British American
emphasis on legal control, but has not led to a significant level of harmony in consolidated financial
reporting due to accounting diversity, capital market structures, code law US. Common law legal systems
and macro Vs micro user roles of accounting.
The EU has indicated its support for the IASC and IOSCO initiatives and is aiming at conformity with
the IASs. A number of EU member countries including France and Germany have started taking steps to
require IASs domestically.
ASEAN – The Association of South-East Asian Nations adopted the global paradigm. ASEAN’s principal
objective was to create a robust economic alliance among members viz., Indonesia, Malaysia, Philippines,
Singapore, Thailand, Brunei, Vietnam, ……… Myanmar. ASEAN adopts unilaterally the standards
issued by IASC. Member countries vary widely due to each one’s colonial history and regulatory
preferences.
While 60% of world wide experts for members of the EU are within the EU, while this is just 20% for
ASEAN. Hence, ASEAN requires a more global approach.
In the emerging situation, a global approach would be more relevant and sustainable. The only hard work
is to make it happen in practice with all the diversities overcome, and translate into uniformity.
5.4 Post Balance Sheet Events
The periodic financial statements are prepared on the basis of transactions and events that have occurred
during the year. However, in order that the information is complete, information regarding any signifi-
cant events or material transactions beyond the traditional accounts is essential. Accounting and reporting
standards ensure that the information provided in the financial statements is as complete as possible. In
this section a brief introduction of the Accounting Standard 4 Contingencies and Events occurring after
the Balance Sheet Date, which ensures adequate disclosure of additional evidence of conditions existing
at the balance sheet date acquired up to the date of publication of the financial statements.

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The preparation of the annual financial statements can be a timely process in practice and usually takes
around three or four months. Company law places a maximum time limit for publication of the financial
statements Six months after the year end for companies.
During the period after the balance sheet date assets such as stock will be realised into debtors or cash or,
alternatively, events may occur that significantiy affect the position of the company and it is only fair to
inform external users of the financial statements of any further information relevant to them regarding the
items in the balance sheet at the year end. The additional information may relate to actual amounts in the
balance sheet or to events that have taken place since the year end. To ensure this information is disclosed,
preparers of financial statements must follow the requirements of Accounting Standard 4.
What are Post-Balance Sheet Events
Post-balance sheet events are those events, both favourable and unfavourable, which occur between
the balance sheet date and the date on which the financial statements are approved by the board of
directors.
Adjusting events are post-balance sheet events which provide additional evidence of conditions existing
at the balance sheet date. They include events which because of statutory or conventional requirements
are reflected in financial statements.
Non-adjusting events are post-balance sheet events which concern conditions which did not exist at the
balance sheet date.
The date on which the financial statements are approved by the board of directors is the date the board of
directors formally approves a set of documents as the financial statements.
Accounting treatment
Accounting Standard 4 gives the following accounting treatment in each case.
Adjust the financial statements if events after the balance sheet dale provide material evidence of conditions
that existed at the balance sheet dale, adjusting events.
A material post-balance sheet event should be disclosed (by note) where it is a non-adjusting event of such
materiality that its non-disclosure would affect the ability of users of financial statements to reach a proper
understanding of the financial position.
Disclosure is also required for the reversal or maturity after the year end of a transaction entered into before
the year end, the substance of which was primarily to alter the appearance of the company’s balance sheet.
(If such a transaction has an income effect, adjustment would be required, for example sales returns.)
Certain post-balance sheet events are adjusted for because of statutory requirements to include them in
the accounts; for example, proposed dividends, amounts appropriated to reserve, effects of changes in tax
and dividends receivable from subsidiary and associated companies.
Examples of adjusting and non-adjusting events
Adjusting Non-adjusting
Subsequent determination of proceeds of sale of fixed
assets purchased or sold before the year end.
Mergers/acquisitions after the year end.
Property valuation that provides evidence of a
permanent diminution in value.
Reconstructions after the year end.

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Evidence re NRV cost of stocks. Issue of shares/debentures after the year
end.
Evidence re inaccuracy of attributable profit
calculations.
Purchase/sale of fixed assets after the year
end.
Insolvency of a debtor Losses re fire/flood after the year end
Dividends receivable Extension of activities after the year end
Receipt of information re rates of tax Significant closure if this was not anticipated
at the year end
Amounts received/receivable -re insurance claims
that were in the course of negotiation.
Decline in asset values if
demonstrated to be after the year end.
Discovery of error or fraud. Changes in exchange rates after the year
end.
Effect of nationalisation or strikes after the
year end.
Augmentation of pension benefits after the
year end.
For a detailed discussion on the Accounting Standard 4, please refer to the earlier section in this chapter.
5.5 External Reporting under Capital Market Regulations
In India Capital Markets are regulated by the Securities Exchange Board of India (SEBI). In view of
enhancing the Corporate Governance in Corporate in India the SEBI introduced the Clause 49 of the Listing
Agreement, which deals with the Corporate Governance and its applicability in Listed companies.
Applicability and Date of Compliance With Revised Clause 49
The provisions of the revised Clause 49 shall be implemented as per the schedule of implementation given
below:
a) For entities seeking listing for the first time, at the time of seeking in- principle approval for such
listing.
b) For existing listed entities which were required to comply with Clause 49 which is being revised i.e.
those having a paid up share capital of Rs. 3 crores and above or net worth of Rs. 25 crores or more
at any time in the history of the company, by April 1, 2005.
Companies complying with the provisions of the existing Clause 49 (issued vide circulars dated 21st
February, 2000, 9th March 2000, 12th September 2000, 22nd January, 2001 16th March 2001 and 31st
December 2001) shall continue to do so till the revised Clause 49 of the Listing Agreement is complied
with or till March 31, 2005, whichever is earlier.
The companies which are required to comply with the requirements of the revised Clause 49 shall submit
a quarterly compliance report to the stock exchanges as per sub Clause VI (ii), of the revised Clause 49,
within 15 days from the end of every quarter. The first such report would be submitted for the quarter
ending June 30, 2005. The report shall be signed either by the Compliance Officer or the Chief Executive
Officer of the company.

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The revised Clause 49 shall apply to all the listed companies, in accordance with the schedule of
implementationgivenabove.However,forotherlistedentitieswhicharenotcompanies,butbodycorporate
(e.g. private and public sector banks, ﬁnancial institutions, insurance companies etc.) incorporated under
other statutes, the revised Clause 49 will apply to the extent that it does not violate their respective statutes
and guidelines or directives issued by the relevant regulatory authorities. The revised Clause 49 is not
applicable to Mutual Funds.
THE REVISED CLAUSE 49
The following is the Revised Clause 49 requirement as issued by the SEBI
Clause 49 - Corporate Governance
The company agrees to comply with the following provisions:
I. Board of Directors
(A) Composition of Board
(i) The Board of directors of the company shall have an optimum combination of executive and non-
executive directors with not less than fifty percent of the board of directors comprising of non-
executive directors.
(ii) Where the Chairman of the Board is a non-executive director, at least one-third of the Board should
comprise of independent directors and in case he is an executive director, at least half of the Board
should comprise of independent directors.
(iii) For the purpose of the sub-clause (ii), the expression ‘independent director’ shall mean a non-
executive director of the company who:
a. apart from receiving director’s remuneration, does not have any material pecuniary relationships
ortransactionswiththecompany,itspromoters,itsdirectors,itsseniormanagementoritsholding
company, its subsidiaries and associates which may affect independence of the director;
b. is not related to promoters or persons occupying management positions at the board level or at
one level below the board;
c. has not been an executive of the company in the immediately preceding three financial years;
d. is not a partner or an executive or was not partner or an executive during the preceding three
years, of any of the following:
i) the statutory audit firm or the internal audit firm that is associated with the company,
and
ii) the legal firm(s) and consulting firm(s) that have a material association with the company.
e. is not a material supplier, service provider or customer or a lessor or lessee of the company,
which may affect independence of the director; and
f. is not a substantial shareholder of the company i.e. owning two percent or more of the block of
voting shares.

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Explanation
For the purposes of the sub-clause (iii):
a. Associate shall mean a company which is an “associate” as defined in Accounting Standard (AS)
23, “Accounting for Investments in Associates in Consolidated Financial Statements”, issued by the
Institute of Chartered Accountants of India.
b. “Senior management” shall mean personnel of the company who are members of its core management
team excluding Board of Directors. Normally, this would comprise all members of management one
level below the executive directors, including all functional heads.
c. “Relative” shall mean “relative” as defined in section 2(41) and section 6 read with Schedule IA of the
Companies Act, 1956..
d. Nominee directors appointed by an institution which has invested in or lent to the company shall be
deemed to be independent directors.
Explanation:
“Institution’ for this purpose means a public financial institution as defined in Section 4A of the
Companies Act, 1956 or a “corresponding new bank” as defined in section 2(d) of the Banking Companies
(Acquisition and Transfer of Undertakings) Act, 1970 or the Banking Companies (Acquisition and Transfer
of Undertakings) Act, 1980 [both Acts].”
(B) Non executive directors’ compensation and disclosures
All fees/compensation, if any paid to non-executive directors, including independent directors, shall be
fixed by the Board of Directors and shall require previous approval of shareholders in general meeting.
The shareholders’ resolution shall specify the limits for the maximum number of stock options that can
be granted to non-executive directors, including independent directors, in any financial year and in
aggregate.
(C) Other provisions as to Board and Committees
(i) The board shall meet at least four times a year, with a maximum time gap of three months
between any two meetings. The minimum information to be made available to the board is
given in Annexure – I A.
(ii) A director shall not be a member in more than 10 committees or act as Chairman of more than
five committees across all companies in which he is a director. Furthermore it should be a
mandatory annual requirement for every director to inform the company about the committee
positions he occupies in other companies and notify changes as and when they take place.
Explanation:
1. For the purpose of considering the limit of the committees on which a director can serve, all public
limited companies, whether listed or not, shall be included and all other companies including private
limited companies, foreign companies and companies under Section 25 of the Companies Act shall
be excluded.
2. For the purpose of reckoning the limit under this sub-clause, Chairmanship/membership of the
Audit Committee and the Shareholders’ Grievance Committee alone shall be considered.

456
(iii) TheBoardshallperiodicallyreviewcompliancereportsofalllawsapplicabletothecompany,prepared
by the company as well as steps taken by the company to rectify instances of non-compliances.
(D) Code of Conduct
(i) The Board shall lay down a code of conduct for all Board members and senior management of
the company. The code of conduct shall be posted on the website of the company.
(ii) All Board members and senior management personnel shall affirm compliance with the code
on an annual basis. The Annual Report of the company shall contain a declaration to this effect
signed by the CEO.
Explanation: For this purpose, the term “senior management” shall mean personnel of the company who
are members of its core management team excluding Board of Directors. Normally, this would comprise
all members of management one level below the executive directors, including all functional heads.
II Audit Committee
(A) Qualified and Independent Audit Committee
A qualified and independent audit committee shall be set up, giving the terms of reference subject to the
following:
(i) The audit committee shall have minimum three directors as members. Two-thirds of the members of
audit committee shall be independent directors.
(ii) All members of audit committee shall be financially literate and at least one member shall have
accounting or related financial management expertise.
Explanation 1: The term “financially literate” means the ability to read and understand basic financial
statements i.e. balance sheet, profit and loss account, and statement of cash flows.
Explanation 2: A member will be considered to have accounting or related financial management
expertise if he or she possesses experience in finance or accounting, or requisite professional certification in
accounting, or any other comparable experience or background which results in the individual’s financial
sophistication, including being or having been a chief executive officer, chief financial officer or other
senior officer with financial oversight responsibilities.
(iii) The Chairman of the Audit Committee shall be an independent director;
(iv) The Chairman of the Audit Committee shall be present at Annual General Meeting to answer
shareholder queries;
(v) The audit committee may invite such of the executives, as it considers appropriate (and particularly
the head of the finance function) to be present at the meetings of the committee, but on occasions it
may also meet without the presence of any executives of the company. The finance director, head
of internal audit and a representative of the statutory auditor may be present as invitees for the
meetings of the audit committee;
(vi) The Company Secretary shall act as the secretary to the committee.
(B) Meeting of Audit Committee
The audit committee should meet at least four times in a year and not more than four months shall elapse

457
between two meetings. The quorum shall be either two members or one third of the members of the audit
committee whichever is greater, but there should be a minimum of two independent members present.
(C) Powers of Audit Committee
The audit committee shall have powers, which should include the following:
1. To investigate any activity within its terms of reference.
2. To seek information from any employee.
3. To obtain outside legal or other professional advice.
4. To secure attendance of outsiders with relevant expertise, if it considers necessary.
(D) Role of Audit Committee
The role of the audit committee shall include the following:
1. Oversight of the company’s financial reporting process and the disclosure of its financial information
to ensure that the financial statement is correct, sufficient and credible.
2. Recommending to the Board, the appointment, re-appointment and, if required, the replacement or
removal of the statutory auditor and the fixation of audit fees.
3. Approval of payment to statutory auditors for any other services rendered by the statutory
auditors.
4. Reviewing, with the management, the annual financial statements before submission to the board for
approval, with particular reference to:
a. Matters required to be included in the Director’s Responsibility Statement to be included in the
Board’s report in terms of clause (2AA) of Section 217 of the Companies Act, 1956
b. Changes, if any, in accounting policies and practices and reasons for the same
c. Major accounting entries involving estimates based on the exercise of judgment by
management
d. Significant adjustments made in the financial statements arising out of audit findings
e. Compliance with listing and other legal requirements relating to financial statements
f. Disclosure of any related party transactions
g. Qualifications in the draft audit report.
5. Reviewing, with the management, the quarterly financial statements before submission to the board
for approval
6. Reviewing, with the management, performance of statutory and internal auditors, adequacy of the
internal control systems.
7. Reviewing the adequacy of internal audit function, if any, including the structure of the internal
audit department, staffing and seniority of the official heading the department, reporting structure
coverage and frequency of internal audit.
8. Discussion with internal auditors any significant findings and follow up there on.

458
9. Reviewing the findings of any internal investigations by the internal auditors into matters where
there is suspected fraud or irregularity or a failure of internal control systems of a material nature
and reporting the matter to the board.
10. Discussion with statutory auditors before the audit commences, about the nature and scope of audit
as well as post-audit discussion to ascertain any area of concern.
11. To look into the reasons for substantial defaults in the payment to the depositors, debenture holders,
shareholders (in case of non payment of declared dividends) and creditors.
12. To review the functioning of the Whistle Blower mechanism, in case the same is existing.
13. Carrying out any other function as is mentioned in the terms of reference of the Audit Committee.
Explanation (i): The term “related party transactions” shall have the same meaning as contained in the
Accounting Standard 18, Related Party Transactions, issued by The Institute of Chartered Accountants of
India.
Explanation (ii): If the company has set up an audit committee pursuant to provision of the Companies
Act, the said audit committee shall have such additional functions/features as is contained in this clause.
(E) Review of information by Audit Committee
The Audit Committee shall mandatorily review the following information:
1. Management discussion and analysis of financial condition and results of operations;
2. Statement of significant related party transactions (as defined by the audit committee), submitted by
management;
3. Management letters / letters of internal control weaknesses issued by the statutory auditors;
4. Internal audit reports relating to internal control weaknesses; and
5. The appointment, removal and terms of remuneration of the Chief internal auditor shall be subject to
review by the Audit Committee
III. Subsidiary Companies
i. At least one independent director on the Board of Directors of the holding company shall be a director
on the Board of Directors of a material non listed Indian subsidiary company.
ii. The Audit Committee of the listed holding company shall also review the financial statements, in
particular, the investments made by the unlisted subsidiary company.
iii. The minutes of the Board meetings of the unlisted subsidiary company shall be placed at the Board
meeting of the listed holding company. The management should periodically bring to the attention
of the Board of Directors of the listed holding company, a statement of all significant transactions and
arrangements entered into by the unlisted subsidiary company.
Explanation1 : The term “material non-listed Indian subsidiary” shall mean an unlisted subsidiary,
incorporated in India, whose turnover or net worth (i.e. paid up capital and free reserves) exceeds 20% of
the consolidated turnover or net worth respectively, of the listed holding company and its subsidiaries in
the immediately preceding accounting year.
Explanation 2 : The term “signiﬁcant transaction or arrangement” shall mean any individual transaction

459
or arrangement that exceeds or is likely to exceed 10% of the total revenues or total expenses or total assets
or total liabilities, as the case may be, of the material unlisted subsidiary for the immediately preceding
accounting year. Explanation 3: Where a listed holding company has a listed subsidiary which is itself a
holding company, the above provisions shall apply to the listed subsidiary insofar as its subsidiaries are
concerned.
IV. Disclosures
(A) Basis of related party transactions
(i) A statement in summary form of transactions with related parties in the ordinary course of business
shall be placed periodically before the audit committee.
(ii) Details of m aterial individual transactions with related parties which are not in the normal course of
business shall be placed before the audit committee.
(iii) Details of material individual transactions with related parties or others, which are not on an arm’s
length basis should be placed before the audit committee, together with Management’s justification
for the same..
(B) Disclosure of Accounting Treatment
Where in the preparation of financial statements, a treatment different from that prescribed in an
Accounting Standard has been followed, the fact shall be disclosed in the financial statements, together
with the management’s explanation as to why it believes such alternative treatment is more representative
of the true and fair view of the underlying business transaction in the Corporate Governance Report.
(C) Board Disclosures – Risk management
The company shall lay down procedures to inform Board members about the risk assessment and
minimization procedures. These procedures shall be periodically reviewed to ensure that executive
management controls risk through means of a properly defined framework.
(D) Proceeds from public issues, rights issues, preferential issues etc.
When money is raised through an issue (public issues, rights issues, preferential issues etc.), it shall
disclose to the Audit Committee, the uses / applications of funds by major category (capital expenditure,
sales and marketing, working capital, etc), on a quarterly basis as a part of their quarterly declaration of
financial results. Further, on an annual basis, the company shall prepare a statement of funds utilized for
purposes other than those stated in the offer document/prospectus/notice and place it before the audit
committee. Such disclosure shall be made only till such time that the full money raised through the issue
has been fully spent. This statement shall be certified by the statutory auditors of the company. The audit
committee shall make appropriate recommendations to the Board to take up steps in this matter.
(E) Remuneration of Directors
(i) All pecuniary relationship or transactions of the non-executive directors vis-à-vis the company shall
be disclosed in the Annual Report.
(ii) Further the following disclosures on the remuneration of directors shall be made in the section on the
corporate governance of the Annual Report:
(a) All elements of remuneration package of individual directors summarized under major groups,
such as salary, benefits, bonuses, stock options, pension etc.

460
(b) Details of fixed component and performance linked incentives, along with the performance
criteria.
(c) Service contracts, notice period, severance fees.
(d) Stock option details, if any – and whether issued at a discount as well as the period over which
accrued and over which exercisable.
(iii) The company shall publish its criteria of making payments to non-executive directors in its annual
report. Alternatively, this may be put up on the company’s website and reference drawn thereto in
the annual report.
(iv) The company shall disclose the number of shares and convertible instruments held by non-executive
directors in the annual report.
(v) Non-executive directors shall be required to disclose their shareholding (both own or held by / for
other persons on a beneficial basis) in the listed company in which they are proposed to be appointed
as directors, prior to their appointment. These details should be disclosed in the notice to the general
meeting called for appointment of such director
(F) Management
(i) As part of the directors’ report or as an addition thereto, a Management Discussion and Analysis
report should form part of the Annual Report to the shareholders. This Management Discussion
Analysis should include discussion on the following matters within the limits set by the company’s
competitive position:
i. Industry structure and developments.
ii. Opportunities and Threats.
iii. Segment– wise or product-wise performance.
iv. Outlook
v. Risks and concerns.
vi. Internal control systems and their adequacy.
vii. Discussion on financial performance with respect to operational performance.
viii. Material developments in Human Resources / Industrial Relations front, including number of
people employed.
(ii) Senior management shall make disclosures to the board relating to all material financial and
commercial transactions, where they have personal interest, that may have a potential conflict with
the interest of the company at large (for e.g. dealing in company shares, commercial dealings with
bodies, which have shareholding of management and their relatives etc.)
Explanation: For this purpose, the term “senior management” shall mean personnel of the company
who are members of its. core management team excluding the Board of Directors). This would also
include all members of management one level below the executive directors including all functional
heads.
(G) Shareholders

461
(i) In case of the appointment of a new director or re-appointment of a director the shareholders must
be provided with the following information:
(a) A brief resume of the director;
(b) Nature of his expertise in specific functional areas;
(c) Names of companies in which the person also holds the directorship and the membership of
Committees of the Board; and
(d) Shareholding of non-executive directors as stated in Clause 49 (IV) (E) (v) above
(ii) Quarterly results and presentations made by the company to analysts shall be put on company’s
web-site, or shall be sent in such a form so as to enable the stock exchange on which the company is
listed to put it on its own web-site.
(iii) A board committee under the chairmanship of a non-executive director shall be formed to specifically
look into the redressal of shareholder and investors complaints like transfer of shares, non-receipt
of balance sheet, non-receipt of declared dividends etc. This Committee shall be designated as
‘Shareholders/Investors Grievance Committee’.
(iv) To expedite the process of share transfers, the Board of the company shall delegate the power of
share transfer to an officer or a committee or to the registrar and share transfer agents. The delegated
authority shall attend to share transfer formalities at least once in a fortnight.
H. CEO/CFO certification
The CEO, i.e. the Managing Director or Manager appointed in terms of the Companies Act, 1956 and the
CFO i.e. the whole-time Finance Director or any other person heading the ﬁnance function discharging
that function shall certify to the Board that:
(a) They have reviewed financial statements and the cash flow statement for the year and that to the best
of their knowledge and belief :
(i) these statements do not contain any materially untrue statement or omit any material fact or
contain statements that might be misleading;
(ii) these statements together present a true and fair view of the company’s affairs and are in
compliance with existing accounting standards, applicable laws and regulations.
(b) There are, to the best of their knowledge and belief, no transactions entered into by the company
during the year which are fraudulent, illegal or violative of the company’s code of conduct.
(c) They accept responsibility for establishing and maintaining internal controls and that they have
evaluated the effectiveness of the internal control systems of the company and they have disclosed
to the auditors and the Audit Committee, deficiencies in the design or operation of internal controls,
if any, of which they are aware and the steps they have taken or propose to take to rectify these
deficiencies.
(d) They have indicated to the auditors and the Audit committee
(i) significant changes in internal control during the year;
(ii) significant changes in accounting policies during the year and that the same have been disclosed

462
in the notes to the financial statements; and
(iii) instances of significant fraud of which they have become aware and the involvement therein,
if any, of the management or an employee having a significant role in the company’s internal
control system
(I) Report on Corporate Governance
(i) There shall be a separate section on Corporate Governance in the Annual Reports of company,
with a detailed compliance report on Corporate Governance. Non-compliance of any mandatory
requirement of this clause with reasons thereof and the extent to which the non-mandatory
requirements have been adopted should be specifically highlighted. The suggested list of items
to be included in this report is given in Annexure - I C and list of non-mandatory requirements is
given in Annexure – I D.
(ii) The companies shall submit a quarterly compliance report to the stock exchanges within 15 days
from the close of quarter as per the format given in
Annexure I B. The report shall be signed either by the Compliance Officer or the Chief Executive
Officer of the company
(I) Compliance
(1) The company shall obtain a certificate from either the auditors or practicing company secretaries
regarding compliance of conditions of corporate governance as stipulated in this clause and annex
the certificate with the directors’ report, which is sent annually to all the shareholders of the company.
The same certificate shall also be sent to the Stock Exchanges along with the annual report filed by
the company.
(2) The non-mandatory requirements given in Annexure – I D may be implemented as per the discretion
of the company. However, the disclosures of the compliance with mandatory requirements and
adoption (and compliance) / non- adoption of the non-mandatory requirements shall be made in the
section on corporate governance of the Annual Report.
Annexure I A
Information to be placed before Board of Directors
1. Annual operating plans and budgets and any updates.
2. Capital budgets and any updates.
3. Quarterly results for the company and its operating divisions or business segments.
4. Minutes of meetings of audit committee and other committees of the board.
5. The information on recruitment and remuneration of senior officers just below the board level,
including appointment or removal of Chief Financial Officer and the Company Secretary.
6. Show cause, demand, prosecution notices and penalty notices which are materially important.
7. Fatal or serious accidents, dangerous occurrences, any material effluent or pollution problems.
8. Any material default in financial obligations to and by the company, or substantial non-payment for
goods sold by the company.

463
9. Any issue, which involves possible public or product liability claims of substantial nature, including
any judgement or order which, may have passed strictures on the conduct of the company or taken
an adverse view regarding another enterprise that can have negative implications on the company.
10. Details of any joint venture or collaboration agreement.
11. Transactions that involve substantial payment towards goodwill, brand equity, or intellectual
property.
12. Significant labour problems and their proposed solutions. Any significant development in Human
Resources/ Industrial Relations front like signing of wage agreement, implementation of Voluntary
Retirement Scheme etc.
13. Sale of material nature, of investments, subsidiaries, assets, which is not in normal course of
business.
14. Quarterly details of foreign exchange exposures and the steps taken by management to limit the risks
of adverse exchange rate movement, if material.
15. Non-compliance of any regulatory, statutory or listing requirements and shareholders service such
as non-payment of dividend, delay in share transfer etc.
Annexure I B
Format of Quarterly Compliance Report on Corporate Governance
Name of the
Company:
Particulars
Quarter ending on:
Particulars
Clause of
Listing
Compliance
Status Yes/No Remarks
I. Board of Directors 49 I
(A) Composition of Board 49(IA)
(B) Non-executive Directors’ ompensation
disclosures
49 (IB)
(C) Other provisions as to Board and Committees 49 (IC)
(D) Code of Conduct 49 (ID)
II. Audit Committee 49 (II)
(A) Qualiﬁed Independent Audit Committee 49 (IIA)
(B) Meeting of Audit
Committee 49 (IIB)
(C) Powers of Audit Committee 49 (IIC)
(D) Role of Audit Committee 49 II(D)
(E) Review of Information by Audit Committee 49 (IIE)
III.Subsidiary Companies 49 (III)
IV.Disclosures 49 (IV)
(A) Basis of related party transactions 49 (IV A)
(B) Board Disclosures 49 (IV B)

464
(C) Proceeds from public issues, rights issues,
preferential issues etc.
49 (IV C)
(D) Remuneration of Directors 49 (IV D)
(E) Management 49 (IV E)
(F) Shareholders 49 (IV F)
V. CEO/CFO Certiﬁcation 49 (V)
VI. Report on Corporate Governance 49 (VI)
VII. Compliance 49 (VII)
Note:
1) The details under each head shall be provided to incorporate all the information required as per the
provisions of the Clause 49 of the Listing Agreement.
2) In the column No.3, compliance or non-compliance may be indicated by Yes/No/N.A.. For example,
if the Board has been composed in accordance with the Clause 49 I of the Listing Agreement, “Yes”
may be indicated. Similarly, in case the company has no related party transactions, the words “N.A.”
may be indicated against 49 (IV A).
3) In the remarks column, reasons for non-compliance may be indicated, for example, in case of
requirement related to circulation of information to the shareholders, which would be done only in
the AGM/EGM, it might be indicated in the “Remarks” column as – “will be complied with at the
AGM”. Similarly, in respect of matters which can be complied with only where the situation arises,
for example, “Report on Corporate Governance” is to be a part of Annual Report only, the words
“will be complied in the next Annual Report” may be indicated.
Annexure I C
Suggested List of Items to Be Included In the Report on Corporate Governance in the Annual Report
of Companies
1. A brief statement on company’s philosophy on code of governance.
2. Board of Directors:
i. Composition and category of directors, for example, promoter, executive, non-executive,
independent non-executive, nominee director, which institution represented as lender or as
equity investor.
ii. Attendance of each director at the Board meetings and the last AGM.
iii. Number of other Boards or Board Committees in which he/she is a member or Chairperson
iv. Number of Board meetings held, dates on which held.
3. Audit Committee:
i. Brief description of terms of reference
ii. Composition, name of members and Chairperson
iii. Meetings and attendance during the year

465
4. Remuneration Committee:
i. Brief description of terms of reference
ii. Composition, name of members and Chairperson
iii. Attendance during the year
iv. Remuneration policy
v. Details of remuneration to all the directors, as per format in main report.
5. Shareholders Committee:
i. Name of non-executive director heading the committee
ii. Name and designation of compliance officer
iii. Number of shareholders’ complaints received so far
iv. Number not solved to the satisfaction of shareholders
v. Number of pending complaints
6. General Body meetings:
i. Location and time, where last three AGMs held.
ii. Whether any special resolutions passed in the previous 3 AGMs
iii. Whether any special resolution passed last year through postal ballot – details of voting
pattern
iv. Person who conducted the postal ballot exercise
v. Whether any special resolution is proposed to be conducted through postal ballot
vi. Procedure for postal ballot
7. Disclosures:
i. Disclosures on materially significant related party transactions that may have potential conflict
with the interests of company at large.
ii. Details of non-compliance by the company, penalties, strictures imposed on the company by
Stock Exchange or SEBI or any statutory authority, on any matter related to capital markets,
during the last three years.
iii. Whistle Blower policy and affirmation that no personnel has been denied access to the audit
committee.
iv. Details of compliance with mandatory requirements and adoption of the nonmandatory
requirements of this clause
8. Means of communication.
i. Quarterly results
ii. Newspapers wherein results normally published
iii. Any website, where displayed
iv. Whether it also displays official news releases; and
v. The presentations made to institutional investors or to the analysts.

466
9. General Shareholder information:
i. AGM : Date, time and venue
ii. Financial year
iii. Date of Book closure
iv. Dividend Payment Date
v. Listing on Stock Exchanges
vi. Stock Code
vii. Market Price Data : High., Low during each month in last financial year
viii. Performance in comparison to broad-based indices such as BSE Sensex, CRISIL index etc.
ix. Registrar and Transfer Agents
x. Share Transfer System
xi. Distribution of shareholding
xii. Dematerialization of shares and liquidity
xiii. Outstanding GDRs/ADRs/Warrants or any Convertible instruments, conversion date and
likely impact on equity
xiv. Plant Locations
xv. Address for correspondence
Annexure I D
Non-Mandatory Requirements
(1) The Board
A non-executive Chairman may be entitled to maintain a Chairman’s office at the company’s expense
and also allowed reimbursement of expenses incurred in performance of his duties. Independent
Directors may have a tenure not exceeding, in the aggregate, a period of nine years, on the Board of
a company.
(2) Remuneration Committee
i. The board may set up a remuneration committee to determine on their behalf and on behalf of
the shareholders with agreed terms of reference, the company’s policy on specific remuneration
packages for executive directors including pension rights and any compensation payment.
ii. To avoid conflicts of interest, the remuneration committee, which would determine the
remuneration packages of the executive directors may comprise of at least three directors, all
of whom should be non-executive directors, the Chairman of committee being an independent
director.
iii. All the members of the remuneration committee could be present at the meeting.
iv. The Chairman of the remuneration committee could be present at the Annual General Meeting,
to answer the shareholder queries. However, it would be up to the Chairman to decide who
should answer the queries.
(3) Shareholder Rights
A half-yearly declaration of financial performance including summary of the significant events in
last six-months, may be sent to each household of shareholders.

467
(4) Audit qualifications
Company may move towards a regime of unqualified financial statements.
(5) Training of Board Members
A company may train its Board members in the business model of the company as well as the risk
profile of the business parameters of the company, their responsibilities as directors, and the best
ways to discharge them.
(6) Mechanism for evaluating non-executive Board Members
The performance evaluation of non-executive directors could be done by a peer group comprising
the entire Board of Directors, excluding the director being evaluated; and Peer Group evaluation
could be the mechanism to determine whether to extend / continue the terms of appointment of non-
executive directors.
(7) Whistle Blower Policy
The company may establish a mechanism for employees to report to the management concerns about
unethical behaviour, actual or suspected fraud or violation of the company’s code of conduct or
ethics policy. This mechanism could also provide for adequate safeguards against victimization of
employees who avail of the mechanism and also provide for direct access to the Chairman of the
Audit committee in exceptional cases. Once established, the existence of the mechanism may be
appropriately communicated within the organization.

468
5.6 Value Added Statement
1. Value Added
Value Added is the wealth created by a Firm, through the combined effort of (1) Capital (2) Management and
(3) Employees. This wealth concept arises due to the input- output exchange between a Firm and components
of its external environment.
OWNERS
EMPLOYEES
MANAGEMENT
MONEY
LENDERS
GOVERNMENT
BUSINESS ENTERPRISE
– Retained profit for
sustenance and growth
Interest
Funds/Capital
Governance
Infrastrucuture
Direct Indirect
Taxes
Directors’
Remuneration
Commission
Business
Management
Human Effort
Wage
Capital
Dividend
Value Added = Sale Value of Outputs Less: Cost of Bought in goods and services.
2. Gross Value Added (GVA)
Retained Profits Sales Revenue - Materials Cost - Wages Cost - Expenses Cost - Managerial Remuneration
- Depreciation Expenses - Interest paid - Taxes paid - Dividends paid.
Transposing the same, we have the following equation –
Sales Revenue - Materials Cost - Expenses Cost = Retained Profits + Wages paid + Managerial
Remuneration + Interest, paid + Taxes paid + Dividends
paid + Depreciation Expense.

469
After adjusting for other Direct Incomes, Non-operating incomes and expenditure, we have —
Sales Revenue Wages paid to Employees
+ Direct Incomes + Interest paid to Providers of Loan Funds
- Materials Cost = + Taxes paid to Government
- Expenses Cost + Dividends paid to owners and investors
+ Non-Operating Income/Expenditure + Retained Profits
+ Extra-Ordinary Income/Expenditure + Depreciation (for maintenance expansion)
This equation represents to the concept of Gross Value Added, i.e. the wealth or surplus created by the firm on
the LHS (Sources) and the beneficiaries of this wealth on the RHS (Applications).
3. Net Value Added (NAV)
Net Value Added = Gross Value Added — Depreciation
Rewriting the equation for Gross Value Added as indicated above, we have —
Sales Revenue Wages paid to Employees
+ Direct Incomes + Interest paid to Providers of Loan Funds
- Materials Cost = + Taxes paid to Government
- Expenses Cost + Dividends paid to owners and investors
+ Non-Operating Income/Expenditure + Retained Profits
+ Extra-Ordinary Income/Expenditure
- Depreciation (for maintenance expansion)
4. Value Added Statement for a Manufacturing Firm.
The Value Added Statement shows the Value Added of a business for a particular period. It also reveals how
it is arrived at and apportioned to the stakeholders like employees, management, loan providers, Government
and also to the business itself.
The Value Added Statements has two parts — the first part showing how the GVA is arrived at and the second
part showing the application / distribution of Value Added to various beneficiaries.
GROSS VALUE ADDED OF A MANUFACTURING COMPANY
for the year ended 31st
March, 200X
Particulars Rs. Percentage
Sales
Less: Materials and Services Used
Add: Royalties and Other Direct Income
Value Added by Trading Activities
XXX
XX
XX
XXX
100%
x%
x%
x%
x%
x%
100%
Add: Investment Income
Add/Less: Extra-Ordinary Items
Gross Value Added
Applied as follows -
1. To Employees Salaries, Wages, etc.
2. To Government as Taxes, Duties, etc.
3. To Financiers as Interest on borrowings
4. To Shareholders as Dividends
5. To Retained Earnings, including Depreciation
Total
XX
XX
XXXX
XXX
XXX
XXX
XXX
XXX
XXXX

470
5. Utility of GVA reporting than NVA reporting.
1. Realistic meaning of Retained profits: There is no cash outflow from a firm to the extent of depreciation
charged. Hence, GVA reporting, which includes depreciation as part of retained profits, properly reflects
the amount retained for business purposes.
2. Objectivity: Depreciation charged in the accounts depends on the firm’s policy and also on the estimates
of the asset’s useful life, scrap value, etc. Since the cost of bought in materials and services are deducted to
compute GVA, it is derived in an objective manner than NVA.
3. Macro level analysis: At the macro level, Gross Domestic Product (GDP) is commonly used as an indicator
of economic trends. GVA reporting will make aggregation of data easier for macro level analysis.
6. Advantages of NVA over GVA.
1. Matching: NVA reporting properly deducts depreciation, which represents a write off of the capital cost of
the asset due to wear and tear. This results in proper matching of the period’s revenues with costs.
2. Asset Life Disparity: Under GVA, cost of tools, jigs, etc. having a life of one year would be deducted
whereas depreciation on assets having a longer useful life will not be deducted. NVA recognises both types
of assets and properly records depreciation on the assets utilised.
3. Calculation of Wealth: Wealth or Surplus created by an entity will be overstated if no allowance is made
towards wear and tear or loss of value of fixed assets used by the entity.
4. Impact on Productivity Bonus: When a Productivity Bonus is paid to employees based on Value Added,
NVA is more appropriate since it recognises the effect of mechanization, etc. by charging depreciation.
7. (a) Proprietary Theory; (b) Entity Theory; and (c) Enterprise Theory.
1. Proprietary Theory: This theory is based on the principle that the proprietor is the centre of interest. This
theory propounds that all assets belong to the Proprietor and all liabilities are the Proprietor’s obligations.
This theory holds good only for a Sole Proprietorship or a Partnership.
2. Entity Theory: This theory is suitable for corporate form of business enterprises. The theory suggests
that the Net Income of the Reporting Entity is generally expressed in terms of the Net Change in the
Stockholders’ Equity. It represents the residual change in equity position after deducting all outsiders’
claims. The Reporting Entity is considered as a separate economic unit operating only for the benefit of its
Equity Shareholders.
3. Enterprise Theory: In this theory, the Reporting Entity is a Social Institution, operating for the benefit of
many interested groups like Shareholders, Bondholders, Management, Employees, etc. The Value Added is
an important concept in this theory. When the income is defined as the reward of a larger group of people
than just shareholders, the concept and its understanding is better.
8. The relevance of Value Added Statements in Corporate Financial Reporting.
1. Company Ranking: The Value Added is a very good index to measure the size and importance of a
Company. It also overcomes the distortion in ranking caused by the use of inflated sales.
2. Systems Concept: The Value Added Statement reflects the Company’s objectives and responsibilities in a
better fashion. It establishes the fact that the business entity is part of a larger system interacting with other
components in the environment.
3. Employee Incentives: The Value Added Statement paves way for introduction of productivity linked bonus
schemes for the employees. Calculation also becomes easier.
4. Macro level analysis: The Value Added Statement links the Company’s financial accounts to the national
income by indicating the Company’s Contribution to National Income.

471
5. Ratio Analysis: The Value Added Statement helps in ratio analysis. The Value Added to Payroll, Taxes to
Value Added and Value Added to Sales ratios are used as predictive tools for analysis of different firms. It
also provides for adjustments in respect of inflation, to facilitate comparison between periods.
6. Concepts: The Value Added Statement is based on fundamental concepts that are accepted in financial
statements like the going concern concept, matching concept, consistency and substance over form, etc.
7. Performance Measure: Value Added is a better measure of performance of business entity than the profit.
It explains the input-output relationship. Once the value added is ascertained, it is possible to establish a
linkage with value to be used —
• For the work force – for Wages, Salaries • For the Government – for Corporation Tax
and related expenses • For the Financiers – for Interest on loans and
• For the Business – for retention for Dividends on Share Capital
8. Budgeting: Value Application is a pre-condition for value generation. So insufficiency of value added can
be understood beforehand. This may be good test for Business Budgeting than Financial Reporting.
9. What information can we gather from Value Added Statements?
1. Wealth Creation: The Value Added Statement specifies the wealth accumulated by the Company. It states
in monetary terms the wealth accumulated by the Company.
2. Beneficiaries/participants of wealth: The Value Added Statement states the application of Value Added
to shareholders, bondholders, employees, etc. This identifies the participants/beneficiaries of the wealth
generated by the Company and their interest in the Company in terms of value and percentage.
3. Value Added based ratios: The following ratios can be computed – Value Added to Sales, Value Added
to payroll, Taxes to Value Added, etc. This facilitates comparison of ratios between periods as well as
comparison between Companies.
4. Value Added Interpretation: Value Added facilitates interpretation of operating results or contribution of
various Companies. The real wealth of Companies can be understood only from the Value Added Statement,
as the comparison of Sales Turnover may not give a real picture. Many Companies can have the same
turnover also.
10. Disadvantages of Value Added Reporting.
1. Risk: Employees, Government and Fund Providers are interested only in getting their share of Value Added.
The entire business risk is borne only by the Shareholders. The residual profits after meeting the obligations
of the outside groups should be shown as the Value Added accruing to the shareholders.
2. Non-uniformity: Value Added Statements are non-standardised in areas like inclusion or exclusion of
Depreciation, Taxation on Profits, etc. This can however be overcome by defining an Accounting Standard
on Value Added.

472
ILLUSTRATIONS
Illustration 1: Gross Value Added Statement – Treatment of Deferred Taxes
From the following details, calculate the Gross Value Added and Net Value Added of Amareshwar Ltd.
Profit and Loss Account for the year ended 31st
March 200X
Particulars Rs. 000s Notes Rs. 000s
Sales
Trading Profit
Less: Depreciation
Interest
Add: Rent from let out properties
121
56
A
B
C
D
8,540
766
(177)
33
Profit Before Tax
Less: Provision for tax
Profit After Tax
Less: Extra-Ordinary Items
Less: Dividend Paid and Payable
622
(275)
347
(7)
340
(136)
Retained Profit 204
Notes:
A. Trading Profit is arrived at after charging -
(Rs. 000s)
• Salaries, Wages, etc. to employees 1,475
• Directors’Remuneration 145
• Audit Fees 90
• Hire of Equipment 115
B. Interest figure is ascertained as under: (Rs. 000s)
Interest paid on Bank Loans and Overdrafts 65
Interest received (9)
Net Interest 56
C. Provision of Taxes includes a transfer of Rs.57(000s)
to the credit of Deferred Tax Account.
D. Extra-ordinary items - (Rs. 000s)
Surplus on Sale and Lease back of properties 8
Loss of Cash by theft (15)
Solution:
Expenditure debited in deriving Trading Profit (as per Note A) = 1,475 + 145 + 90 + 115 = 1,825.
Cost of Bought Out Materials = Sales - Exps as per Note A - Trading Profit = 8,540 - 1,825 - 766 = 5,949.
Value Added Statement of Amareshwar Ltd. for the year ended 31.03.200X.
Particulars Rs. 000s Rs. 000s
Sales/Turnover
Less: Bought in Materials
Manufacturing and Other Expenses (90 +115)
5,949
205
8,540
6,154
Value Added by Trading Activities 2,386
Add: Other Income (Rent = + 33; Interest Received = + 9)
Extra-Ordinary Items (as per Note D)
42
(7) 35
TOTAL VALUE ADDED 2,421
2. To Management as Directors’ Remuneration
3. To Government as Taxes, Duties, etc. (Tax Provn 275 — Deferred Tax 57)
5. To Shareholders as Dividends
6. To Retained Earnings as — (a) Depreciation
(b) General Reserves
(c) Deferred Taxation
1,475
145
218
65
136
121
204
57
%
61%
6%
9%
3%
6%
5%
8%
2%
TOTAL APPLICATION 2,421 100%

473
Illustration 2: Value Added Statement – Treatment of Value Deficit
From the following data, prepare a Value Added Statemen of Bhadreshwar Ltd., for the year-ended 31.03.200X.
Decrease in Stock 24,000 Sales 40,19,000
Purchases 20,20,000 Other income 55,000
Wages Salaries 10,00,000
Manufacturing Other Expenses 2,30,000
Finance Charges 4,69,000
Depreciation 2,44,000
Profit Before Taxation 87,000
Total 40,74,000 Total 40,74,000
Particulars Rs.
Profit Before Taxation
Less: Tax Provisions
Income Tax Payments (for earlier years)
Add: Earlier Year Profit brought forward
87,000
(40,000)
(3,000)
38,000
Profit After Taxation 82,000
Appropriations of PAT
Debenture Redemption Reserve
General Reserve
Proposed Dividend
Balance carried to Balance Sheet
10,000
10,000
35,000
27,000
Total 82,000
Solution:
Value Added Statement of Bhadreshwar Ltd. for the year ended 31.03.200X
Particulars Rs. Rs.
Sales/Turnover
Less: Bought in Materials
• Decrease in Stock
• Purchases
24,000
20,20,000
40,19,000
20,44,000
Value Added by Trading Activities
Add: Other Income
19,75,000
55,000
GROSS VALUE ADDED 20,30,000
2. To Other Service Providers as Manufacturing Other expenses
3. To Government as Taxes, Duties, etc. (40,000 + 3,000)
5. To “Shareholders as Dividends
6. To Retained Earnings as –
• Depreciation
• Debenture Redemption Reserve
• General Reserve
10,00,000
2,30,000
43,000
4,69,000
35,000
2,44,000
10,000
10,000
TOTAL APPLICATION 20,41,000
VALUE DEFICIT (Reduction in P L A/c balance = 38,000 - 27,000) (11,000)
Note: Alternatively, the reduction in Retained Profits (38,000 - 27,000) may be considered as an adjustment / reduction
against the entry “To Retained Earnings” and the Value Deficit need not be shown.

474
Illustration 3: Value Added Statement – Percentage Analysis of VA
Following is an extract of Profit Loss A/c of Chakreshwar Ltd. for the year ended 31st
March.
Particulars Rs. 000s
Sales (including Excise Duty Recoveries) Other Income 727 13
Total 740
Materials
Excise Duty
Salaries, Wages Employee Benefits
Other Expenses
Interest Finance Charges
Depreciation
Provision for Taxation
Preliminary Expenses written off
Transfer to Debenture Redemption Reserve
Proposed Dividend
Transfer to General Reserve
530
62
19
47
_
5
31
5
5
24
Total 740
• Other Expenses include Fees Commissions to Whole-Time Directors amounting to Rs.9,000 and Loss on
Sale of Fixed Assets of Rs.3,000.
• Interest and Finance Charges include interest on Long Term Loans of Rs.4,000; and the balance being on
Short-Term Borrowings.
Prepare a Value Added Statement for the year ended 31st
March.
Solution: Value Added Statement of Chakreshwar Ltd for the year ended 31st
March
Particulars Rs. 000s % of Sales
A: VALUE ADDED
Sales
Less: Materials
Other Expenses (47 - 9 - 3)
Short-Term Interest
Value Added from own operations
Add: Other Income
727
(530)
(35)
(3)
100.0
72.9
4.8
0.4
159
13
21.9
TOTAL VALUE ADDED 172
B: VALUE APPLIED Rs. 000s %
B.l To Employees: Salaries, Wages and Benefits
B.2 To Government: Excise Duty
Income-Tax
B.3 To Finance Providers: Interest on Long Term Loans
Dividend on Equity
B.4 To Entity’s needs -
Meeting Loss on Sale of Fixed Assets
Preliminary Expenses w/off
Depreciation
Transfer to Reserves (Deb. Redemption General Reserve)
28
62
31
93
4
5
9
3
5
5
29
42
16.3
36.0
18.1
54.1
2.0
3.0
5.2
1.7
3.0
3.0
16.9
24.4
TOTAL APPLICATION 172 100.0

475
Illustration 4: VA Statement and Reconciliation of GVA with PAT
Prepare a Gross Value Statement from the following Profit and Loss Account of Dakshineshwar Ltd. Show also
the Reconciliation between Gross Value Added and Profit before Taxation.
Profit Loss Account for the year ended 31.03.200X
Particulars (Rs. Lakhs) (Rs. Lakhs)
Income: Sales Other Income 610
25
Total Income 635
Expenditure: Production Operational Expenses
Administration Expenses
Interest and Other Charges
Depreciation
465
19
27
14 525
Less: Profit Before Taxes
Provision for Taxes
110
16
Add: Profit After Taxes
Balance as per last Balance Sheet
94
7
101
Transferred to: General Reserve
Proposed Dividend
Surplus carried to Balance Sheet
60
11 71
30
Total 101
Notes:
1. Production Operational Expenses (Rs. Lakhs)
Increase in Stock 112
Consumption of Raw Materials 185
Consumption of Stores 22
Salaries, Wages, Bonus other benefits 41
Cess and Local Taxes 11
Other Manufacturing Expenses 94
465
2. Administration Expenses include inter-alia Audit Fees of Rs.4.80 Lakhs, Salaries Commission to Directors
Rs.5 Lakhs and Provision for Doubtful Debts Rs.5.20 Lakhs.
3. Interest and Other Charges: (Rs. Lakhs)
On Working Capital Loans from Bank 8
On Fixed Loans from IDBI 12
On Debentures 7
27
Solution:
Value Added Statement of DakshinjShwar Ltd for the year-ended 31.03.200X
Rs. Lakhs Rs. Lakhs %
Sales 610
Less: Cost of Bought In Material and Services:
Production Operational Expenses (112 + 185 + 22 + 94) 413
Administration Expenses (19 - 5) 14
Interest on Working Capital Loans 8 435
Value Added by Manufacturing and Trading activities
Add: Oilier Incomes
175
- 25
TOTAL VALUE ADDED 200

476
Application of Value Added: Rs. Lakhs Rs. Lakhs %
1. To pay Employees: Salaries, Wages, Bonus and other benefits
2. To pay Directors: Salaries and Commission
3. To pay Government: Cess and Local Taxes
Income Tax
4. To pay providers of Capital: Interest on Debentures
Interest on Fixed Loans
Dividend
5. To provide for maintenance and expansion of the Company:
Depreciation
General Reserve
Retained Profit (30 - 7)
11
16
7
12
11
14
60
23
41
5
27
30
97
20.50
2.50
13.50
15.00
48.50
TOTAL APPLICATION 200 100.00
Reconciliation between Total Value Added and Profit before Taxation
Particulars Rs. Lakhs Rs. Lakhs
Profit before Tax
Add back: Depreciation
Salaries, Wages, Bonus and other benefits
Directors Remuneration
Cess and Local Taxes
Interest on Debentures
Interest on Fixed Loans
14
41
5
11
7
12
110
90
Total Value Added 200
Illustration 5: GrossValue Added Statement and Reconciliation ofJVA with PAT
The following is the Profit and Loss Account of F Ltd., from which you are required to prepare a Gross Value
Added Statement and reconcile the same with Profit before Taxation.
Income: Sales 28,500
Other Income 750 29,250
Expenditure: Operating Cost 25,600
Excise Duty 1,700
Interest on Bank Overdraft 100
Interest on 12% Debentures 1.150 28.550
Less: Profit before Depreciation
Depreciation
700
250
Profit Before Tax 450
Less: Tax Provision 270
Net Profit After Tax 180
Less: Transfer to Replacement Reserve 30
Balance Profit 150
Less: Dividend 50
Retained Profit 100

477
Note:
(a) Sales are net after deducting Discounts, Returns, and Sales Tax.
(b) Operating Cost includes Rs.(000s) 10,200 as Wages, Salaries and other benefits to Employees.
(c) Bank Overdraft is a temporary source of finance.
(d) Provision for Tax includes Rs. (000s) 70 for Deferred Tax.
Solution: Value Added Statement of F Ltd.
Particulars Rs. 000s Rs. 000s %
Sales
Less: Cost of Materials and Services
Operating Cost (25,600 - 10,200)
Excise Duty
Interest on Overdraft (See Note 1)
Value Added by manufacturing and trading activities
Add: Other Income
15,400
1,700
100
28,500
17.200
11,300
750
TOTAL VALUE ADDED 12,050
Application of Total Value Added:
1. To pay Employees: Wages, Salaries and other benefits
2. To pay Government: Corporation Tax
3. To pay Providers of Capital: Interest on 12% Debentures
Dividend
4. To Provide for maintenance and expansion of Company:
Depreciation
Replacement Reserve
Deferred Tax (See Note 2)
Retained Profit
1,150
50
250
30
70
100
10,200
200
1,200
450
84.65
1.65
9.95
3.75
TOTAL APPLICATION 12,050 100.00
Note:
1. Bank Overdraft is a temporary source of finance. It has been considered as provision of a banking service
rather than provision of Capital. Hence, Interest on Bank OD has been shown as deduction from Sales and
as part of “Cost of Bought In Materials Services”.
2. Deferred Taxation can also be shown as “To Pay Government”.
Illustration 6: Gross Value Added Statement and Reconciliation of GVA with PAT
On the basis of the following Income Statement of G Ltd., prepare - (a) Gross Value Added Statement; and
(b) Statement showing reconciliation of Gross Value Added with Profit Before Taxation. (Rs. 000’)
Income:
Sales Less Returns 15,27,956
Dividends and Interest 130
Miscellaneous Income 474
Total Income (A) 15,28,560

478
Expenditure:
1. Production Operational Expenses:
Decrease in Inventory of Finished Goods 26,054
Consumption of Raw Materials 7,40,821
Power Lighting 1,20,030
Wages, Salaries and Bonus 3,81,760
Staff Welfare Expenses 26,240
Excise Duty 14,540
Other Manufacturing Expenses 32,565 13,42,010
2. Administration Expenses:
Directors’ Remuneration 7,810
Other Administration Expenses
3. Interest on:
32,640 40,450
9% Mortgage debentures 14,400
Long-Term loan from Financial Institutions 10,000
Bank Overdraft
4. Depreciation on Fixed Assets:
100 24,500
50,600
Total Expenditure (B) 14,57,560
Profit before Taxation (A) - (B) 71,000
Less: Provision for Income Tax 25,470
Profit after Taxation 45,530
Balance of P L A/c as per last Balance Sheet 6.300
Total available for appropriation 51,830
Transferred to:
General Reserve 40% of Rs.45,530 18,212
Proposed Dividend at 22% 22,000
Tax on Distributed Profits at 12.81% 2,818 43,030
Surplus carried to Balance Sheet 8,800
Solution:
Value Added Statement of G Ltd.
Particulars Rs. 000s Rs. 000s %
Sales less Returns
Less: Bought In Materials Services (13,42,010 - 3,81,760 - 26,240)
Administration Expenses
Interest on Bank Overdraft
Value Added by Manufacturing and Trading Activities
Add: Dividend Interest Received
Miscellaneous Income
9,34,010
32,640
100
15,27,956
9,66.750
5,61,206
130
474
TOTAL VALUE ADDED (See Note below) 5,61,810

479
APPLICATION OF VALUE ADDED Rs. 000s Rs. 000s %
1. To Pay Employees: Wages, Salaries Bonus
Staff Welfare Expenses
2. To Pay Directors: Directors Remuneration
3. To Pay Government: Income Tax
Tax on Distributed Profits
4. To Pay to providers of Capital: Interest on 9% Debentures
Interest on long-term loan from financial institution
Dividend to Shareholders
5. To provide for maintenance and expansion of the Company:
Depreciation on Fixed Assets
Transfer to General Reserve
Retained Profits (8,800 - 6,300)
3,81,760
26,240
25,470
2.818
14,400
10,000
22.000
50,600
18,212
2,500
4,08,000
7,810
28,288
46,400
71,312
72.62
1.39
5.04
8.26
12.69
TOTAL APPLICATION 5,61,810 100.00
Reconciliation of Total Value Added with Profit before Taxation
Profit Before Taxation 71,000
Add back: Wages, Salaries Bonus 3,81,760
Staff Welfare Expenses 26,240
Directors Remuneration 7,810
Interest on 9% Mortgage Debentures 14,400
Interest on Long-Term loan from Financial Institution 10,000
Depreciation on Fixed Assets 50,600 4,90,810
Total Value Added 5,61,810
Note: Excise Duty may alternatively be shown as an application of Value Added under “To pay Government”.
Illustration 7: GVA Statement – Calculation of Excise Duty – Nov2004
The following is the Profit and Loss Account of Haalaasi Ltd. for the year ended 31st March. Prepare a GVA
Statement of K Ltd., and show also the reconciliation between Gross Value Added and Profit before Taxation.
Profit and Loss Account for the year ended 31st March
Particulars Rs. Lakhs Rs. Lakhs
Income: Sales
Other Income
Expenditure: Production and operational expenses
Administration expenses (Factory)
Interest
Depreciation
Profit Before Taxes
Less: Provision for Taxes
Profit After Tax
Add: Balance as per Balance Sheet
Less: Transferred to General Reserve
Dividend Paid
890
55
945
720
641
33
29
17
45
95
225
30
195
10
205
140
Surplus carried to Balance Sheet 65

480
1. Production and Operational Expenses consists of
Consumption of Raw materials 293
Consumption of stores 59
Salaries, Wages, Gratuities etc. (Admn.) 82
Cess and Local taxes 98
Other manufacturing expenses 109
2. Interest Charges Consists of
Int. on loan from ICICI Bank for working capital 9
Interest on loan from ICICI Bank for fixed loan 10
Interest on loan from IFCI for fixed loan 8
Interest on Debentures 2
3. Administration Expenses include Salaries to
Directors Rs. 9 lakhs. Provision for doubtful debts
Rs. 6.30 lakhs.
4. The charges for taxation Include a transfer of Rs. 3
lakhs to the credit of Deferred Tax Account.
5. Cess and Local Taxes include Excise Duty, which is equal to 10% of cost of bought-in material.
Solution:
Value Added Statement of K Ltd. for year ending 31st
March
Particulars Rs. Lakhs
Sales 890.00
Less: Cost of Bought in Materials Services (Note 1) 461.00
Administrative Expenses (Note 2) 17.70
Interest (Note 3) 9.00
Excise Duty (Rs.461 x 10%) 46.10
Value Added from Manufacturing and Trading Activities 356.20
Add: Other Income 55.00
TOTAL VALUE ADDED 411.20
Application of Value Added % Rs. Lakhs
To Pay Employees (Note 4) 20% 82.00
To Pay Directors (Note 5) 2% 9.00
To Pay Government (Note 6) 20% 81.90
To Pay Providers of Capital (Note 7) 28% 115.00
To Provide for Maintenance Expansion of the Company (Note 8) 30% 123.30
TOTAL APPLICATION 100% 411.20
Working Notes:
1. Cost of bought in materials and services includes Raw materials, stores and other manufacturing expenses,
i.e., 293 + 59 + 109 = Rs.461 Lakhs.
2. Administrative Expenses excludes Commission to Directors and Provision for debts i.e., [Rs.33 - (Rs.9 +
Rs.6.3)] which is Rs. 17.70 Lakhs.
3. Interest on Working Capital - ICIC1 Bank is Rs. 9 Lakhs.
4. Employees: Salaries, Waês, Gratuities etc. is Rs. 82 Lakhs.
5. Directors - Salaries and Commission to Directors is Rs. 9 Lakhs.
6. Payment to Government includes Cess and Local Taxes (Rs.98 Lakhs Less Rs.461 Lakhs x 10%), Deferred
Taxes and Provision for taxation i.e., (Rs.51.9 + Rs.3 + Rs.27 = Rs. 81.9 Lakhs.
7. Payment to Providers of Capital includes interest on Fixed Loan (Rs. 10 Lakhs + Rs. 8 Lakhs), Interest on
Debentures and pividend i.e., Rs. 18 + Rs. 2 + Rs. 95 = Rs. 115 Lakhs.
8. Retained earnings and Depreciation includes depreciation, Transfer to General Reserve, Retained Profit
and Provision for doubtful debts i.e., Rs.17 + Rs.45 + Rs.55 + Rs.6.3 = Rs. 123.30 Lakhs.

481
5.7 Economic Value Added Statement
1. What is Economic Value Added (EVA)? How is it calculated?
1. Meaning: Economic Value Added (EVA) is ths surplus generated by an entity after meeting an equitable
charge towards the providers of Capital.
EVA = Operating Profit-Taxes paid - (Capital Employed x WACC)
2. Significance: Economic Value Added is an index to measure the financial performance. It takes into account
the Profit, Loss, Balance Sheet efficiency and Opportunity Cost of Capital.
3. Uses: EVA helps to –
(a) measure business performance,
(b) take important managerial decisions,
(c) equate managerial incentives with Shareholders’ interest, and
(d) improve financial and business literacy throughout the Firm.
2. Differentiate between VA (Value Added) and Economic Value Added (EVA) concepts.
Particulars Value Added Economic Value Added
Meaning VA is the wealth that a Firm has been able to
create through the collective effort of Capital,
Management and Employees.
EVA is the surplus generated by an entity
after meeting an equitable charge towards the
providers of Capital.
Computation VA = Market Price of a Firm’s Output — Cost
of Bought in Materials and Services
EVA = Operating Profit - Taxes paid - (Capital
Employed x WACC)
Purpose VA provides a useful measure in analysing
the performance and activity of the reporting
entity.
EVA is a management tool to help managers
take decisions which increase the shareholders’
wealth.
Focus VA focusses on the Firm’s performance and
contribution towards various groups.
EVA focusses on Firm’s ability to create surplus
above shareholders’ expectations.
Information VA reporting is based on the P L Account
information, which is primarily internal data.
EVA reporting uses market information and
estimates like Cost of Capital, Beta, Risk Free
Rate of Return etc.
Time Value
of Money
VA reporting does not recognise time value of
money, since it deals with the wealth created
by the Firm during a specified period of time
e.g. a financial year.
Time Value of Money is recognised in EVA
reporting through the use of WACC. The
Weighted Average Cost of Capital is based on
the PV of future interest/dividend outflows.

482
3. List the concepts in Economic Value Added (EVA).
1. Cost of Debt (Kd
): It is the Discount Rate that equates the Present Value of After Tax Interest Payment
Cash Outflows to the current Market Value of Debt Capital. [Note: Debt = Long Term Borrowings only]
• Kd
(for Irredeemable Debt) = [Interest (100% - Tax Rate)] ÷ Long Term Debt
• Kd
(for Redeemable Debt) = {[Interest (100% - Tax Rate)l + [RV - NP1 ÷ n)
[RV + NP] ÷ 2
Where RV = Redemption Value of Debt; NR = Net Proceeds of Debt Issue; n = Number of years after which
Debt becomes redeemable.
2. Cost of Preference Capital (Kp
): It is the Discount Rate that equates the Present Value of Preference
Dividend Cash Outflows to the current Market Value of Preference Share Capital.
• Kp
(for Irredeemable PSC) = Preference Dividend * Preference Share Capital
• Kd
(for Redeemable PSC) = (Preference Dividend + TRV - NP] ^ n)
[RV + NP] - 2
Where RV = Redemption Value of PSC; NP = Net Proceeds of PSC Issue; n = Number of years after which
PSC becomes redeemable.
3. Cost of Equity (Ke
) is the expected Market Rate Return on Equity Capital. This is,generally derived from
the Capital Asset Pricing.Model (CAPM), in the following manner –
Cost of Equity Capital = Risk Free Rate + (Beta x Equity Risk Premium)
Where Equity Risk Premium = Market Rate of Return Less Risk Free Rate of Return
4. Cost of Retained Earnings (Kr
): Reserves and Surplus are created out of appropriation of profit, i.e. by
retention of profit attributable to Equity Shareholders. So, the expectation of the shareholders to have value
appreciation on this money will be same as in case of Equity Share Capital. Accumulated Reserves and
Surplus which are free to Equity Shareholders carry the same cost as Equity Share Capital.
5. Beta:
(a) Beta is a relative measure of volatility that is determined by comparing the return on a share to the
return on the stock market. Thus, Beta is a measure of non-diversifiable risk.
(b) The greater the volatility, the more risky the Share and hence, the higher the Beta. A Company having
a Beta of 1.2 implies that, if the Stock Market increases by 10%, the Company’s Share Price will increase
by 12% (i.e. 10% x 1.2). Also, if the Stock Market decreases by 10% the Company’s Share Price will
decrease by 12%.
(c) It is the basis of explaining the relationship between the Return of a particular security (e.g. Shares of a
particular Company) and the return of the Stock Market as a whole (i.e. Market Risk Premium). Beta is
the responsiveness of Stock Return or Portfolio Return (of a Company) to Market Return (as a whole).
(d) Beta is a statistical measure of volatility. For Listed Companies, Beta is calculated as the co-variance
of daily return on stock market indices and the return on daily share prices of a particular Company
divided by the Variance of the return on daily Stock Market indices. Generally, maximum of yearly
Beta of the Company should be taken for calculations.
(e) For Unlisted Companies, Beta of similar firms in the industry may be considered after transforming it
to un-geared beta and then re-gearing it according to the Debt Equity Ratio of the unlisted Company.

483
6. Equity Risk Premium: Equity Risk Premium is the excess return above tbe RisltFree Rate that investors
demand for holding risky securities (i.e. Shares of the given Company). Equity Risk Premium = Market rate of
Return (MRR) Less Risk Free Rate.
7. Market Rate of Return: It may be calculated from the movement of share market indices over a period of
an economic cycle based on moving average, to smooth out abnormalities, if any. Market Rate of Return may
be calculated as under —
Stock Exchange Index at the end of the year – Stock Exchange Index at the beginning of the year
Stock Exchange Index at the beginning of the year
8. Overall Cost of Capital (Kr
): The Overall Cost of Capital of a Firm is the weighted average cost of the
individual components of Capital i.e. Debt, Preference and Equity. Thus WACC or (Kr
) is equal to -
Kd
x Debt +
Kp
x PSC +
Ke
* Equity
Total Funds Total Funds Total Funds
Where Total Funds = Debt + Preference Capital + Equity Funds.
ILLUSTRATIONS
Illustration 1: EVA Computation
Compute EVA’of Sarin Ltd. for 3 years from the information given – (in Rs. Lakhs)
Year 1 2 3
Average Capital Employed 3,000.00 3,500.00 4,000.00
Operating Profit before Interest (adjusted for tax Effect) 850.00 1250.00 1600.00
Corporate Income Taxes 80.00 70.00 120.00
Average Debt+Total Capital Employed (In %) 40.00 35.00 13.00
Beta Variant 1.10 1.20 1.30
Risk Free Rate (%) 12.50 12.50 12.50
Equity Risk Premium (%) 10.00 10.00 10.00
Cost of Debt (Post Tax) (%) 19.00 19.00 20.00
Solution: EVA Statement of Sarin Ltd.
Particulars Year l Year 2 Year 3
1. Cost of Equity (Ke
) = Risk Free Rate+
(Beta x Equity Risk Premium)
12.5+(1.1 x 10)
= 23.50%
12.5 + (1.2 x 10)
= 24.50%
12.5 +(1.3 x 10)
= 25.50%
2. Cost of Debt (Kd
) (given) 19.00% 19.00% 20.00%
3. Debt – Equity Ratio (Debt = given; Equity is bal. fig) 40% 60% 35% 65% 13% 87%
4. WACC = [(Kd
) x Debt % + (Ke
) x Equity%] 21.70%
(23.50x60% +
19x40%)
22.58%
(24.50 x 65% +
19 x 35%)
24.79%
(25.50 x 87% +
20 x 13%)
5. Average Capital Employed (given) 3,000.00 3,500.00 4,000.00
6. Capital Charge (Fair Return to Providers of Capital
i.e. Average Capital Employed x WACC) (4 x 5)
3,000x21.70%
= 651.00
3,500 x 22.58%
= 790.30
4,000 x 24.79%
= 991.60
7. Operating Profit before Taxes Interest 850.00 1,250.00 1,600.00
8. Less: Taxes Paid 80.00 70.00 120.00

484
9. Operating Profit after Taxes (This is the return to the Providers of
Capital i.e. Debt and Equity)
770.00 1,180.00 1,480.00
10. Capital Charge (computed in 6 above) 651.00 790.30 991.60
11. Economic Value Added (9 - 10) 119.00 389.70 488.40
12. EVA as a % of Average Capital Employed 3.96% 11.13% 12.21%
Illustration 2: EVA Computation using WACC, Equity Risk Premium etc.
The Capital Structure of Himesh Ltd. is as under:
• 80,00,000 Equity Shares of Rs.10 each = Rs.800 Lakhs
• 1,00,000 12% Preference Shares of Rs.250 each = Rs.250 Lakhs
• 1,00,00010% Debentures of Rs.500 each = Rs.500 Lakhs
• Term Loan from Bank (at 10%) = Rs.450 Lakhs.
The Company’s Profit and Loss Account for the year showed a balance PAT of Rs.100 lakhs, after appropriating
Equity Dividend at 20%. The Company is in the 40% tax bracket. Treasury Bonds carry 6.5% interest afid beta factor
for the Company may be taken at 1.5. The long run market rate of return may be taken at 16.5%. Calculate EVA.
Solution:
1. Profit and Loss Statement
Particulars Commutation Rs. Lakhs
Profit before Interest and Taxes Balancing figure 578.33
Less: Interest on Debentures 10% x Rs.500 Lakhs 50.00
Interest on Bank Term Loan
Profit before Tax
10% x Rs.450 Lakhs (Rs.290.00 - 60%) 45.00
483.33
Less: Tax at 40%
Profit after Tax
(Rs.290.00 ÷ 60%) x 40%
Reverse working
193.33
290.00
Less: Preference Dividend
Residual Earnings for Equity Shareholders
12% x Rs.250 Lakhs
Reverse working
30.00
260.00
Less: Equity Dividend
Net Balance in P L Account
20% x Rs.800 Lakhs
Given
160.00
100.00
2. Computation of Cost of Equity: Ke
= Risk Free Rate + Beta x (Market Rate - Risk Free Rate)
= 6.5% + 1.5 (16.5% - 6.5%) = 21.5%.
3. Computation of WACC:
Component Amount Ratio Individual Cost WACC
Equity Rs. 800 Lakhs 800 ÷ 2000 - 40.0% Ke
=21.5% 8.60%
Preference Rs. 250 Lakhs 250 ÷ 2000= 12.5% Kp
= 12% 1.50%
Debt Rs. 950 Lakhs 950 ÷ 2000 = 47.5% Kd
= Interest x (100 - Tax Rate)
= 10% x (100% - 40%) = 6%
2.85%
Total Rs.2,000 Lakhs Ko
= 12.95%
4. Computation of EVA:
Profit before Interest and Taxes (from WN 1)
Less: Taxes
578.33
193.33
Net Operating Profit After Taxes i.e. Return to Providers of Capital
Less: Capital Charge (Fair Return to providers of Capital) = WACC x Cap Emp
385.00
2,000 x 12.95% = 259.00
Economic Value Added 126.00

485
Illustration 3: EVA using Financial Leverage, PE Ratio
From the following information, compute EVA of Auto Ltd. (Assume 35% tax rate)
• Equity Share Capital = Rs.1,000 Lakhs • PE Ratio = 5 times
• 12% Debentures = Rs.500 Lakhs • Financial Leverage = 1.5 times
Solution:
1. Profit and Loss Statement
Particulars % Rs. Lakhs
Profit before Interest and Taxes 150% 18.00
Less: Interest on Debentures Rs.500 x 12% 50% 60.00
Profit before Tax 100% 120.00
Less: Tax at 35% 35% 42.00
Profit after Tax 65% 78.00
Note: Financial Leverage = PBIT + PBT = 1.5. Let PBT = 100%), then PBIT = 150%), hence, Interest = 50%.
2. Computation of WACC
Component Amount Ratio Individual Cost WACC
Equity Rs. 1,000 Lakhs 2/3 Ke
= 1 ÷ PE Ratio = 20% 13.33%
Debt Rs. 500 Lakhs 1/3 Kd
= Interest x (100 - Tax Rate)
= 12% x (100% - 35%) = 7.8%
2.60%
Total Rs. 1,500 Lakhs Ko
= 15.93%
3. Computation of EVA
Profit before Interest and Taxes (from WN 1)
Less: Taxes
180.00
42.00
Net Operating Profit After Taxes i.e. Return to Providers of Capital
Less: Capital Charge (Fair Return to providers of Capital) = WACC x Cap. Emp
138.00
1,500 x 15.93% = 238.95
Economic Value Added Nil
Note: The Company does not generate sufficient profits to meet the requirements of providers of Capital.
Illustration 4: Present Value of EVA
B Co. has existing assets in which it has capital invested of Rs.100 Crores. The After Tax Operating Income on
assets-in-place is Rs.15 Crores. The Return on Capital Employed of 15% is expected to be sustained in perpetuity,
and Company has a Cost of Capital of 10%. Estimate the Present Value of Economic Value Added (EVA) to the Firm
from its assets-in-place.
Solution:
Operating Profit after Tax = Rs. 15 Crores
Return on Capital Employed = 15%, but Cost of Capital = 10%
Present Value of Economic Value Added (EVA) = Operating Profit after Taxes ÷ Cost of Capital
= Rs. 15 Crores ÷ 10% = Rs.150 Crores.

486
5.7.1 Human Resource Accounting
1. Briefly describe the progress made by India so far in the field of HR Accounting. May 2004
1. Human Resource Accounting is a recent phenomenon in India. Leading Public Sector Units like OIL, BHEL,
NTPC, MMTC and SAIL etc. have started reporting Human Resources in their annual reports as additional
information.
2. Companies in India have basically adopted the model of Human Resource Valuation as advocated by Lev
and Schwartz. Indian Companies focused their attention on the present value of employee earning as a
measure of their human capital. However the Lev and Schwartz model has been suitably modified to suit
the Company’s individual circumstances.
5.8 Environmental Accounting
Introduction:
Environmental Accounting is a faithful attempt to identify and bring to light the resources consumed and the
costs rendered reciprocally to the environment by a business enterprise.
It is a method of recording environmental elements and includes -
(a) valuation of natural resources,
(b) measuring the income therefrom,
(c) keeping records of the related costs,
(d) estimating their quantities and providing depreciation on them.
1. Need and significance of Environmental Accounting.
1. Resource Utilisation: Natural Resources (water, air, minerals, forests etc.) are required to carry on the
business activities of every firm. Also, the functioning of an enterprise has some favourable and some
adverse effects on the environment. Hence, there is a need for maintaining accounts of the effects of the
activities of a business entity on the environment and on natural resources.
2. Resource Availability: Environmental Accounting is useful for disclosing how much natural resources are
available in the country, their incomes and the costs incurred to use them and their depreciation, values
etc.
3. Social Responsibility: Environmental Accounting is helpful for measuring industrial development and
social welfare and the fulfilment of social responsibilities by Companies. Companies are urged to be
accountable to both Shareholders and wider society. Profit Making is not considered as the sole corporate
objective.
4. Qualitative Study: Traditional Accounting System is restricted to quantitative and monetary aspects only.
Hence, Environmental Accounting is necessary to analyse the effect of environmental resources in the entire
business functions of a firm.
5. Environmental Protection: Environmental Accounting will help in evaluating the problem of environment
protection. The business activities of the enterprise should be recognised as society (environment) centred
and not only profit-centred.

487
6. Going Concern: Environmental pollution and the substantial costs associated with clean-up activities, fines,
compensation, and bad publicity etc. can even significantly affect the share prices and even the stability of
a Company. Hence, environmental accounting awareness is required.
7. Social Accounting: Social Accounting has been the precursor of Environmental Accounting. Social Costs also
include the use of natural resources and pollution of environments. Also preservation of the environment
is a critical factor for sustainable development. So, Environmental Accounting deserves special attention of
manager, investors, society, different branches of Government and other stakeholders.
2. Areas of Environmental Accounting
Areas of Environmental Accounting
National Level Environmental Accounting Corporate Environmental Reporting
• This denotes modification of National • This denotes Voluntary and Involuntary disclosures
Income accounts to include environmental by Corporate Entities on the impact of its activities
aspects. on environment.
• This provides only a macro viewpoint of the • This provides Corporate Environmental Accounting
environmental aspects of development. and may also include Social Cost Benefit Analysis of
projects affecting environment.
3. National Level Environmental Accounting.
1. Rational Level Environmental Accounting, denotes a set of aggregate national data linking the environment
to the economy which will have a long-term impact on the economic and environmental policy making.
2. This requires necessary amendments to the System of National Accounts (SNA) to incorporate the use
or depletion of national resources. SNA is a set of accounts which every national Government compiles
routinely to track the activities of the economy.
3. SNA data are used to calculate major economic indicators including GDP, GNP, Savings Rate and Balance
Of Trade figures. The accounts are prepared by all countries in a standardised form, using a framework
developed by the United Nations Statistical Division. It helps international comparison and thus allows to
place individual countries in the context of world trends.
4. Drawbacks of National Level Environmental Accounting?
In its present format, the SNA does not include full economic value of environmental resources. SNA has to be
amended in view of the following problems with the present system of national accounts.
1. Non-recognition of Environmental Expenditure: Expenditure to protect the environment from damage or
to mitigate the environmental degradation cannot be identified and segregated from the SNA data.
2. Non-marketed Goods and Services: The environment provides certain goods which are not sold but which
are of high value e.g. fuel-wood and building materials generated in forests, medicinal plants etc. However,
some countries do not include these in their annual income accounts, estimating total consumption and
then using market prices of comparable products as an alternative method to calculate the value of non-
marketed goods and services.
3. ConsumptionofNaturalCapital:TheSNAtreatsgradualdepletionofPhysicalCapital(plantandmachinery
etc.) as depreciation rather than income. However, the depletion of Natural Capital, forests in particular is
accounted as income. Most experts of environmental accounting agree that depletion of natural capital
should be accounted for in the same manner as in case of other physical assets.

488
5. Aspects covered in Corporate Environmental Accounting system.
Environmental Accounting System should include aspects such as –
1. Concept of National Income arising out of the use of Natural Resources;
2. Concept of Costs incurred to make use of such Resources;
3. Depreciation of Natural Resources;
4. Valuation of Natural Resources;
5. Disclosing the value of Natural Resources in the Balance Sheet;
6. Contribution of Natural Resources to Industrial Development;
7. Contribution of Industries to the Environment; and
8. Extent to which changes in the environment due to business activities has affected social well-being.
Environmental Reporting can be classified into two parts, namely –
1. Management Note / Discussion in Director’s Report: Broad Environment Protection Policy adopted and
pursued by the Company and material proceedings under environmental laws should be disclosed here.
2. Accounting Treatment and Reporting: Financial effect of environmental protection measures on capital
expenditures and earnings should be covered in the Notes forming part of Financial Statements.
6. Reporting Requirements of Environmental Accounting.
Under a comprehensive Corporate Accounting Framework on environmental issues the Board of Directors in
their Report or Management Discussions should disclose the following –
1. Type of environmental issues that are pertinent to the enterprise and its industry;
2. Policy and programmes that have been adopted by the Company with respect to Environmental Protection
Measures; or where there is no policy or programmes, such fact should be disclosed;
3. Improvements made by the Company in key areas, since the introduction of the policy, or over the past five
years, whichever is shorter;
4. Environmental Emission Targets that the Company has set for itself, and how the Company is performing
relative to those targets;
5. Extent to which Environmental Protection Measures have been undertaken as per Government Legislation,
and the extent to which Government Requirements (e.g. time table for reduction of emissions) are
achieved;
6. Where any material proceedings under environmental laws have been taken, a disclosure of the known and
potentially significant environmental problem shall be disclosed, unless it can be objectively concluded that
the problem is not likely to occur, or if it does, the effect is not likely to be material;
7. Financial or Operational Effect of Environmental Protection Measures on the Capital Expenditure and
Earnings of the Enterprise for the current period and any specific impact on future periods;
8. Actual Amount charged to operations in the current period, together with a description of the relative
environmental measures.
9. Sub-classification of the above actual amounts into the following – (a) Liquid Effluent Treatment; (b) Waste
Gas and Air Treatment; (c) Solid Waste Treatment; (d) Analysis Control and Compliance; (e) Remediation;
(f) Recycling; and (g) Others (e.g. accidents, safety, etc.). Where it is not possible to segregate the amount
that relates to Environmental Protection Measures, disclosure of such fact is essential.
10. When material, the actual amount capitalised during the current period, the accumulated amount

489
capitalised to date, and the period for amortising, or writing off, such amounts, together with a description
of the environmental measures to whieh they relate. This amount might be sub-divided into categories
stated above. Where it is not possible to segregate the amount that relates to environmental measures, this
fact could be stated.
7. Disclosure of environment-related Accounting Policies.
The following environment-related Accounting Policies may be disclosed in the Notes to Accounts –
1. Recording Liabilities and Provisions;
2. Setting up of Catastrophe Reserves (though appropriations of retained earnings);
3. Disclosure of Contingent Liabilities.
The following environment-related items could be included in Contingent Liabilities, if material –
(a) Liabilities, Provisions and Reserves that have been set / made for the current period, and amounts
accumulated to date,
(b) Contingent Liabilities, with an estimate of the amount involved, unless the event is not likely to occur.
Also, the possible loss could be quantiﬁed to the extent reasonably practicable. If the possible loss
cannot be reasonably calculated, a description of the Contingent Liability could be given along with the
reason why an estimate of the amount of the loss cannot be made. Completion of a feasibility study of
remediation costs may be normally considered as the earliest date at which a reasonable estimate of the
liability is possible.
8. Major issues in Environment Accounting.
Major Accounting Issues in Environmental Accounting are –
1. Environmental Expenditure vs. Normal Business Expenditure: Many machines may have state-of-the-art
environmental technology. Hence, a portion of such capital costs and also the running and maintenance
expenditure may be treated as environment related expenditure. There should be proper guidelines for
allocating the capital and revenue expenditures between Environmental Expenditure and Normal Business
Expenditure.
2. Capitalisation vs. Charging Off of Environmental Expenditure: Environmental protection costs relating
to prior periods and current period are generally very high. If these are expensed off in one year, EPS may
be adversely affected. Some Companies may capitalise such expenditure and amortise the same over say 10
years. Uniformity is required for comparative analysis of Financial Statements.
3. Recognition of Environment related Contingent Liabilities: Environmental Contingent Liabilities are a
matter of increasing concern. Recognizing a liability for hazardous waste remediation frequently depends
on the ability to estimate remediation costs reasonably. Developing a reliable estimate requires evaluation
of technological, regulatory and legal factors, each of which calls for exercise of management judgement to
reach a supportable accounting conclusions.
9. Reporting requirements as to Environmental Statement in the Directors’ Report of
Companies.
1. Disclosure Requirements under Companies Act, 1956: Section 217(1 )(e) requires the Board of Directors
to include in their Annual Report, inter-alia, the prescribed particulars in respect of – (i) conservation of
energy and (ii) technology absorption. Under the Companies (Disclosure of Particulars in the Report of
Board of Directors) Rules, 1988, every Company is required to disclose particulars relating to –
(a) Energy conservation measures taken;
(b) Additional investments and proposals, if any, being implemented for conservation of energy;

490
(c) Impact of the measures at (a) and (b) above, for reduction of energy consumption and consequent
impact on the cost of production of goods;
(d) Total energy consumption and energy consumption per unit of production as per Form A (in respect of
21 specified industry groups e.g. Textiles, Fertilisers, Aluminium, Steel, Sugar, Tea, Paper etc.)
(e) Efforts made in technology absorption, adaptation and innovation as per Form B.
2. Notification by Ministry of Environment and Forests:
(a) A Gazette Notification on Environmental Audit had been issued by the Ministry of Environment and
Forests on 3.3.1992, since amended vide Notification GSR 386(E), dated 22.4.1993.
(b) Applicability: The Notification is applicable to any person carrying on an industry, operations or
process which requires -
• Consent to operate by or under Section 25 of the Water (Prevention and Control of Pollution) Act,
1974 or under Section 211 of the Air (Prevention and Control of Pollution) Act, 1981 or both; or
• Authorisation under the Hazardous Wastes (Management and Handling) Rules, 1989 issued under
the Environment (Protection) Act, 1986.
(c) Reporting Requirements: As per the Notification, an Environmental Statement shall be submitted to
the Pollution Control Board.
(d) Contents: The Environment Statement of the concerned industry should provide information on –
• Water and Raw Material Consumption,
• Pollution Generated,
• Nature of Hazardous Wastes, Solid Wastes and Disposal Practices, and
• Impact of Pollution Control Measures on conservation of natural resources.
3. Conclusion: The disclosures required under the Companies Act have a minimum scope but constitute a
starting point for voluntary disclosure by Companies. However, considering the inadequate level of
environment related disclosures in the Corporate Annual Reports, the possibility and constraints of
inclusion of the Environmental Statement in the Directors Report should be judged by the user.
5.9 Guidance Notes on Accounting for Tax Matters
1. Minimum Alternate Tax (MAT)
The accounting treatment of MAT is based on the Guidance Note on Accounting for Taxes on Income, which has
been withdrawn (AS - 22 is now applicable). Accordingly, Tax Charge for the period should be determined on
the basis of “Tax Effect Accounting Method”. The principles laid down in AS - 22 will apply.
2. Corporate Dividend Tax (CDT)
1. Features of CDT:
(a) CDT is in addition to Income-Tax chargeable in respect of the Total Income of a Domestic Company. CDT
shall be payable even if no Income-Tax is payable by the Domestic Company on its Total Income.
(b) CDT is chargeable on any amount declared, distributed or paid by such Company by way of dividends
(whether interim or otherwise) on or after 1st June, 1997. The dividends chargeable to CDT may be out
of the Current Profits or Accumulated Profits.
(c) The rate of CDT is as given by the Finance Act for the relevant previous year.
(d) CDT is payable to the credit of the Central Government within 14 days of – (i) declaration of any

491
dividend; (ii) distribution of any dividend, or (iii) payment of any dividend, whichever is the earliest.
(e) CDT paid shall be treated as the final payment of tax on the dividends and no further credit therefor
shall be claimed by the Company or by any person in respect of the tax so paid.
2. Recognition of CDT: Provision for Dividend is recognised in the Financial Statements of the year to
which the dividend relates. Hence, CDT on dividend, being directly linked to the amount of the dividend
concerned, should also be recognized/reflected in the accounts of the same financial year (in which the
dividend is recognized) even though the actual tax liability in respect thereof may arise in a different year.
3. Presentation and Disclosure:
(a) PL Account: CDT liability should be disclosed separately in the P L A/c, ‘below the line’, as
under-
Dividends
Add: Corporate Dividend Tax thereon
XXX
XXX XXX
(b) Balance Sheet: Provision for CDT should be disclosed separately under the head ‘Provisions’ in the
Balance Sheet.
3. Fringe Benefits Tax (FBT)
1. Features of FBT:
(a) Fringe Benefits Tax (FBT) is tax payable by an employer in respect of fringe benefits provided or deemed
to have been provided by the employer to his employees during the previous year.
(b) FBT is payable at the specified rate on the value of fringe benefits and is in addition to the Income-Tax
charged under the Income-Tax Act.
(c) FBT is not an allowable expenditure for the purpose of computation of taxable income.
2. Recognition of FBT: Even though the actual payment of the tax and/or assessment of the tax takes place on
a later date, the employer should recognise, in the Financial Statements for the period, expense for the FBT
paid/payable in respect of all expenses giving rise to such tax incurred during that period. The amount of
FBT should be calculated in accordance with Sec. 115WC of the Act.
3. Presentation and Disclosure:
(a) PL Account: FBT should be disclosed as a separate item after determining Profit Before Tax on the
face of the Profit and Loss Account for the period in which the related fringe benefits are recognised.
An illustration of the disclosure of FBT may be as below -
Profit before Tax XXX
Less: Income Tax Expense: Current Tax XXX
Deferred Tax XXX XXX
Fringe Benefits Tax XXX XXX
Profit After Tax XXX
(b) Balance Sheet: The amount of FBT (net of Advance Tax thereon), outstanding if any, at the year-end,
should be disclosed as a Provision in the Balance Sheet.

492
4. Excise Duty
1. Features of Excise Duty:
(a) Excise Duty is an indirect tax, arising as a consequence of manufacture of excisable goods, irrespective
of the manner of use/disposal of goods thereafter i#; sale, destruction or captive consumption.
(b) No sale or further utilization of excisable goods can take place, unless the duty is paid. Hence, Excise
Duty is a necessary expense to be incurred if the goods are to be put in the location and condition in
which they can be sold or further used in the manufacturing process.
2. Accounting Treatment: The accounting treatment of Excise Duty is as under –
(a) Excise Duty should be considered as a manufacturing expense and be considered as an element of cost
for Inventory Valuation.
(b) Where Excise Duty is paid on excisable goods (inputs) and such goods are subsequently utilized in
the manufacturing process, the duty paid on such goods (inputs), if the same is not recoverable from
taxing authorities, becomes a manufacturing cost, and must be included in the valuation of WIP or
Finished Goods arising from the subsequent processing of such goods.
(c) Where the liability for excise duty has been incurred but its collection is deferred, provision for the
unpaid liability should be made.
(d) Excise Duty cannot be treated as a Period Cost.
Illustration: Excise Duty Treatment
Ram Ltd. is manufacturing goods for local sale and exports. As on 31st March, it has the following finished
stocks in the factory warehouse –
(a) Goods meant for local sale Rs.100 Lakhs (Cost Rs.75 Lakhs).
(b) Goods meant for exports Rs. 50 Lakhs (Cost Rs.20 Lakhs).
Excise duty is payable at the rate of 16%. The Company’s Managing Director says that Excise Duty is payable
only on clearance of goods and hence is not a cost. Advise the Company on the proper treatment of Excise
Duty.
Solution:
1 Excise Duty is an indirect tax, arising as a consequence of manufacture of excisable gobdS^ftrespective of
the manner of use / disposal of goods thereafter i.e. sale, destruction or captive consumption.
2 Levy of excise duty is and remains upon the manufacture or production alone. Only collection part of it is
shifted to the stage of removal.’ Hence, the Managing Director’s contention that “Excise Duty is payable
only on clearance of goods and hence is not a cost” is incorrect.
3. As per the Guidance Note on Accounting Treatment for Excise Duty, Excise Duty should be considered as
a manufacturing expense and like other manufacturing expenses be considered as an element of cost for
inventory valuation.
4. The Guidance Note also requires that where the liability for excise duty has been incurred but its collection
is deferred, provision for the unpaid liability should be made. Therefore, in the above case, excise duty
on the goods meant for local sales should be provided for at the rate of 16% on the Selling Price, of Rs.100
Lakhs for valuation of stock.
5. Assuming that all the conditions specified in the Central Excise Rules, regarding export of excisable goods
without paymentrfif duty are fulfilled by the Company, Excise Duty may not be provided for the goods
meant for exports, even though the manufacture thereofis completed.

493
5. Modvat/Cenvat
1. CENVAT Scheme:
(a) Central Valued Added Tax (CENVAT) scheme is applicable w.e.f. 01.04.2000, (replacing the erstwhile
MODVAT Scheme).
(b) The Scheme allows instant credit of duties paid on inputs (Raw Materials) and specified Capital Goods,
used in relation to manufacture of specified final excisable goods, to be utilized for payment of excise
duties in respect of such goods. Hence, duty credit taken (on inputs) is in the nature of set-off against
the payment of duty on the final products.
(c) In respect of Capital Goods received in a factory at any point of time in a given financial year, credit can
be taken only for an amount not exceeding 50% of the duty paid on such capital goods in such financial
year. The balance credit can be taken in any subsequent financial year, provided the Capital Goods are
still in the possession and use of the manufacture of final products, in such subsequent year(s).
2. CENVAT Credit on Inputs used in manufacture of final products: The journal entries are given below-
S.No. Transaction and Entry Debit Credit
1 Purchase of Inputs (with Duty thereon)
Purchases A/c
Dr.
CENVAT Credit Receivable (Inputs) A/c Dr.
Pure Price net
of ED ED on
Purchases
Pure Price incl. ED
2 Sale of dutiable goods
Bank/Sundry Debtors A/c Dr.
To Sales A/c
FG Price incl.
ED on Sales
FG Price incl.
ED on Sales
3 Set-off of CENVAT Credit
Excise Duty A/c Dr.
To CENVAT Credit Receivable (Inputs)
Credit available or EO payable,
whichever is less
4 Payment of balance ED (if credit recble is less)
Excise Duty A/c Dr.
To Bank
To the extent of ED actually paid in cash
i.e. when Credit Rec’ble ED Payable on Sales
Note:
• Disclosure in Balance Sheet: Debit balance in CENVAT Credit Receivable (Inputs) i.e. balance Credit
Available for use in subsequent periods, will be shown on the Assets Side of the Balance Sheet under the
head “Loans and Advances”.
• Changeover from Inclusive Method: An enterprise which had been following the Inclusive Method
(under the previous Guidance Note on Accounting for MODVAT) should changeover to the above method.
Appropriate disclosures are required under AS - 5 are to be made.

494
3. Accounting Treatment in case of Job Work:
Job Work
Inputs sent outside the factory Inputs received inside the factory for further
to a job-worker, for further processing on job-work basis; FG is cleared by
processing the enterprise; and ED burden is borne by –
The Enterprise itself The Principal
(a) For taking CENVAT credit: (a) For taking CENVAT credit:
CENVAT Cr Rec’ble A/c Dr. CENVAT Cr Rec’ble A/c Dr.
To Excise Duty A/c To Principal Co. A/c
Debit requirement is not (b) For set-off of Duty on FG: (b) For set-off of Duty on FG:
applicable under CENVAT Excise Duty A/c Dr. Principal Co. A/c Dr.
Scheme. To CENVAT Cr Rec’ble To CENVAT Cr Rec’ble
(c) For pymt of bal. ED if any: (c) For pymt of bal. ED if any:
Excise Duty A/c Dr. Principal Co. A/c Dr.
To Bank A/c To Bank A/c
4. CENVAT Credit on Capital Goods used in manufacture of speciﬁed goods:
(a) CENVAT credit in respect of Capital Goods should be recognized in the books of account only if – (1)
the enterprise is entitled to CENVAT Credit as per Rules; and (ii) there is a reasonable certainty that the
CENVAT Credit would be utilized.
(b) The Journal Entries are given below —
1 Purchase of Capital Goods (with Duty thereon)
Fixed Assets A/c Dr. Pure Price net of ED
CENVAT Credit Rec’ble (Capital Goods) A/c
Dr.
Credit taken during
the year
(i.e. maximum 50%)
CENVAT Credit Deferred (Capital Goods) A/c
Dr.
Balance credit
to be availed in
subsequent yrs
To Asset Vendor / Bank A/c Pure Price incl. ED
2 Set-off of CENVAT Credit during the year
Excise Duty A/c Dr.
To CENVAT Credit Recble(Capital Goods)
Credit available during the year or ED
payable, whichever is less
3 Tfr of balance Credit available in subsequent yrs
CENVAT Credit Rec’ble (Capital Goods) A/c
Dr.
To CENVAT Credit Deferred (Cap. Goods)
Balance Credit Available for set-off in
subsequent ﬁnancial years.

495
Note :
• Debit balance in CENVAT Credit Receivable (Capital Goods) A/c and CENVAT Credit Deferred (Capital
Goods) A/c i.e. balance Credit Available for use in subsequent periods, will be shown on the Assets Side of
the Balance Sheet under the head “Loans and Advances”.
• Journal Entries for Sale, payment of balance Excise Duty are as in Point 2 above.
5. CENVAT Credit where Capital Goods are acquired on Lease / Hire Purchase:
(a) Accounting in Lessor’s Books: Lessor should account for the price of asset acquired from the Supplier,
net of excise duty only. When the financing arrangement also covers ED portion, ED recoverable
from the lessee should be debited to a separate a/c (and not included in Minimum Lease Payments)
and recovered from the lessee. When the financing arrangement does not cover ED portion, the lessee
would pay the ED directly to the Supplier and hence need not be recorded in the books of the Lessor.
(b) Accounting in Lessee’s Books: CENVAT Credit Receivable on Capital Goods acquired on lease should
be treated in the same manner as in the case of outright purchase of asset.
6. Review of balances in CENVAT Receivable Accounts:
(a) Write-off: Balances in CENVAT Credit Receivable Accounts (Inputs and Capital Goods), should be reviewed
at the end of every year. If it is found that the balances of the CENVAT are not likely to be used in the normal
course of business, then, notwithstanding the right to carry forward such amounts under Excise Rules, the
non-usable excess credit should be adjusted in the accounts, as under -
CENVAT Credit relating to Treatment
(i) Inputs • Debit the specific Raw Material or Purchase A/c, so as to
increase the cost of consumption, valuation of closing stocks.
• Apportion the excess credit pro-rata to all purchases/components,
if the specific Raw Material cannot be identified.
(ii) Capital Goods/FA purchased • Debit the cost of Specific Fixed Asset.
• Charge depreciation on the revised unamortized depreciable
amount, over the balance useful life, prospectively.
• If the specific Fixed Asset no longer exists, write off the excess
unutilisable credit to PL Account.
(iii) Capital Goods on Lease / HP Write off on pro-rata basis to PL A/c, along with Lease Rentals.
(b) Reconciliation: A reconciliation statement between the CENVAT Credit Receivable (Dr.) as per financial
accounts and the credit available as per Excise Registers, should be prepared.
(c) Non compliance with conditions: Where conditions for availing credit have not been complied with, or
are not being capable of compliance, e.g. where inputs are destroyed or fixed assets cannot be used for
manufacture of the final products, the appropriate adjustments should be made as per point (a) above.

496
7. Payment of Duty Demands by set-off i.e. Debit to CENVAT Credit Receivable Account:
Situation Treatment RM Valuation
(a) Duty relating to Finished
Goods
Excise Duty A/c Dr.
To CENVAT Credit Rec’ble
No change
(b) Disallowance of CENVAT
Credit on purchases during the
period
Purchases / Raw Material A/c Dr.
To CENVAT Credit Rec’ble
RM Inputs Cost to be
increased to include ED
(c) Disallowance of CENVAT
Credit on purchases of previous
periods
If such inputs are consumed during the
year: Same entry in (a) above.
If such inputs are still in stock at the end of
year: Same entry in (b) above.
Not Applicable
increased to include ED
8. Inventory Valuation Principles: The principles of inventory valuation are summarized below-
Item valued Inventory Valuation Principle
Inputs where CENVAT Cr. Availed Purchase Price net of Input Duty. (See Note below)
Inputs if CENVAT Cr. Not Availed Total Purchase Price, including Input Duty.
e.g. purchases without requisite documents for availing CENVAT Credit;
-purchases from Small Scale Supplier’s who are Exempted from duty;
purchases from dealers who are not eligible to issue CENVAT Invoice as
per Excise Rules etc.
Final Products Value of Inputs should be net of duty on inputs i.e. Purchase Pricfc,
net of Input Duty. However, provision should be made/ added for
Excise Duty Liability on Final Products.
Capital Goods Purchase Price net of Input Duty.
Note: If any input is used in the production of more than one final product, some of which are excisable while
others are not excisable or charged to Nil rate of duty, the valuation of RM input will be as under -
• If separate RM inventory records are not maintained: All RM Inventory should be valued net of input duty.
• If separate RM jfly/entorv records are maintained: RM Inventory used for production pf excisable final
products should be valued net of input duty; RM Inventory used for production of non-excisable goods or
Nil duty goods, should be valued at actual cost, inclusive of input duty.
Illustration 1: Inventory Valuation principles
A Factory started activities on 1st
April. From the following data, obtain the Value of Closing Stock on 30th
April.
• Raw Materials purchased during April = 80,000 kg at Rs.12 (out of which Excise Duty = Rs.2 per kg). Stock
on hand as on 30th
April = 5,000 kg.
• Production during April = 14,000 units (of which 10,000 unite were sold). In addition to the production, 1,000
units were lying as WIP on 30th
April (100% complete as to Materials and 60% complete as to conversion).
• Wages and Production Overheads = Rs.30 per completed unit.
• Selling Price = Rs.110 per unit (of which Excise Duty is Rs.10 per unit)

497
Solution:
Particulars Computation Rs.
1. Raw Material Valuation (net of Input Excise Duty)
2. WIP Valuation (net of RM input duty)
3. Finished Goods Valuation (including ED on SP)
5,000kg x Rs. l0 per kg
(Rs.50 + 60% of Rs.30) x 1,000 units
(RM 50 + Lab OH 30 + ED 10) =
Rs.90 x (14,000 units - 10,000 units)
50,000
68,000
3,60,000
Total 4,78,000
Computation of Cost per unit of production:
• Raw Materials: (80,000 - 5,000) = 75,000 kg for 15,000 units total = 5 kg x Rs. 10 (net of ED) = Rs.50
• Wages and Production Overhead = Rs.30 per completed unit (given)
Illustration 2: CENVAT Credit Accounting
A Factory went into commercial production on 1st
April, it uses two raw materials M and N, on which excise
duty of Rs.30 per Kg and Rs.20 per Kg respectively is paid. On 31st
March it had stock of 2,000 Kg of M and 1,500
Kg of N which it had purchased at an all inclusive price of Rs.150 per Kg for M and Rs.120 per Kg for N. The
Suppliers of the materials are to receive payment on 15th
May.
During the month of April, the Factory manufactured 4,000 units of the end product for which the consumption
of Materials M and N were 6,000 Kg and 4,500 Kg respectively. The Excise Duty on the end product is Rs.60 per
unit. 30,000 units of the end product were despatched, 800 units were kept in bonded warehouse and balance
200 units were kept in finished goods godown.
During the month the Factory purchased 5,000 Kg of M at Rs.145 per kg (inclusive of Excise Duty Rs.30 per Kg) on
credit of 60 days and 5,000 Kg of N at Rs.110 per Kg (inclusive of Excise Duty Rs.20 per Kg) on credit of 45 days.
The cost of “converting” the raw materials into finished product amounts to Rs.150 per unit of end product of
which Rs. 100 is “cash cost” paid immediately and Rs.50 represents non-cash charge for depreciation. There is
no Work In Process.
Sales are made at Rs.750 per unit in respect of credit transactions and at Rs.700 per unit in respect of cash
transactions. 20% of despatches were in respect of cash transactions while the balance 80% were in respect of
credit transactions (1 month credit).
1. Calculate CENVAT Credit Available, CENVAT Credit Availed of and balance in CENVAT Credit as on
30th
April.
2. Show the necessary ledger accounts in respect of CENVAT.
3. Value the inventory of - (a) Raw Material; (b) Finished Goods in Bonded Warehouse and (c) Finished Goods
in Finished Goods Godown on “First In First Out” principle.
4. Show the Ledger Accounts of Customers, Suppliers and Bank, assuming that the necessary bank balance is
available at the start of the month to meet “cash” expenses of that month.
5. Calculate the profit earned for the month.
6. Calculate the Working Capital as on 30th
April. State the impact of ‘CENVAT’ on Working Capital
Requirement of the Factory as on 30th
April.

498
Solution:
1. CENVAT Credit Available, Availed of and Balance Credit at the end of April
Material M N Total Amount
Rs.
Kgs. ED Rate Amount Kgs. ED Rate Amount
Opening Stock for April
Purchases during April
2,000
5,000
30
30
60,000
1,50,000
1,500
5,000
20 20 30,000
1,00,000
90,000
2,50,000
Total Credit Available 2,10,000 1,30,000 3,40,000
Less: CENVAT Credit availed on Production of 40,000 units at Rs.60 p.u (See Note) 2,40,000
Balance in CENVAT Credit at the end of April 1,00,000
Note:
• Guidance Note on Accounting Treatment for Excise Duty, requires that a provision for liability in respect
of unpaid excise duty should be made in the accounts in respect of stocks lying in the factory or bonded
warehouse since the liability for excise duty arises when the manufacture of the goods is completed.
• CENVAT Rules permit storage of goods in bonded warehouses, without payment of duty. In the absence of
information, Excise Duty has been considered on 800 units also which were kept in bonded warehouse.
2. CENVAT related Ledger Accounts
Dr. (a) CENVAT Credit Receivable Account Cr.
Apr 1 To balance b/d M = 60,000
N = 30,000
April To Suppliers A/c M = 1,50,000
N= 1,00,000
90,000
2,50,000
Apr 30 By Excise Duty A/c - Transfer
Apr 30 By balance c/d (closing balance)
2,40,000
1,00,000
Total 3,40,000 Total 3,40,000
Dr. (b) Purchases Account Cr.
April To Suppliers A/c
M = 5,000 kg x (145-30)
N = 5,000 kg x (110-20)
5,75,000
4,50,000 Apr 30 By balance c/d (closing balance) 10,25,000
Total 10,25,000 Total 10,25,000
3. Valuation of Inventory
(a) Raw Material Valuation
Material Opg Stock + Purchases - Consumption = Clg Stock Rate per kg Value of Stock
M
N
2,000 + 5,000 - 6,000 = 1,000 kgs
1,500 + 5,000 - 4,500 = 2,000 kgs
145-30 = Rs.ll5
110-20 = Rs. 90
Rs. 1,15,000
Rs. 1,80,000
Total Rs. 2,95,000
Note: Raw Materials should be valued at Cost, net of CENVAT Credit.

499
(b) Finished Goods Valuation (assuming FIFO based consumption of Raw Materials)
Particulars Rs.
1. Computation of Cost of Production of 4,000 units
(a) Raw Materials M: 6,000 kg at (145 - 30 = Rs.l 15 per kg)
(b) Raw Materials N: 4,500 kg at (110 - 20 = Rs. 90 per kg)
(c) Conversion Costs at Rs.l50 per unit for 4,000 units
6,90,000
4,05,000
6,00,000
Total Cost of Production (net of Excise Duty on RM) 16,95,000
2. Cost per unit of Finished Product (net of Excise Duty on RM)
3. Add: Excise Duty Payable on Finished Product (ED payable on manufacture).
Hence, provision is to be created for unpaid duty liability.
Rs. 423.75
Rs. 60.00
4. Average Valuation Rate per unit for Final Product Rs.483.75
5. Valuation of Finished Goods:
(a) Bonded Warehouse Stock: 800 units x Rs.483.75
(b) Finished Goods Godown Stock: 200 units x Rs.483.75
Rs. 3,87,000
Rs. 96,750
6. Total Value of Finished Goods Rs. 4,83,750
Note: Valuation of Finished Goods is based on FIFO principle. Hence, Closing Stock of Finished Goods would
consist of goods produced by consuming materials out of current period purchase. Hence, entire raw materials
consumption has been taken at current period net purchase price of Rs.l 15 and Rs.90 per kg respectively.
4. Customers, Suppliers and Bank Accounts
(a) Customers Account
April To Sales 3,000 x 80% x Rs.750 18,00,000 April 30 By balance c/d (closing balance) 18,00,000
(b) Suppliers Account
April 30 To balance c/d (closing bal) 17,55,000 April 1 By bal. b/d (opening balance)
M:2,000 kg x Rs. 150 = 3,00,000
N: 1,500 kg * Rs.120 = 1,80,000
April By Purchases A/c (value net of ED)
April By CENVAT Credit Receivable
M: 5,000 kg x Rs.30 = 1,50,000
N : 5,000 kg x Rs.20 = 1,00,000
4,80,000
10,25,000
2,50,000
Total 17,55,000 Total 17,55,000
(c) Bank Account
April 1 To balance b/d (See Note)
April To Sales 3,000 x 20% x Rs.700
4,00,000
4,20,000
April By Expenses A/c (4,000 x Rs.l00)
Apr 30 By balance c/d (closing balance)
4,00,000
4,20,000
Total 8,20,000 Total 8,20,000

500
Note: It is assumed that the Factory has adequate cash balance equivalent to meet cash expenses for the month.
5. (a) Profit and Loss Account for the month of April
To Opening Stock of Materials: By Sales: Cash: 3,000 * 20% x 700 4,20,000
M(150-30) x 2,000 kgs 2,40,000 Credit: 3,000 x 80% x 750 18,00,000
N(120-20) x 1,500 kgs 1,50,000 By Closing Stocks:
To Purchases (as per Purch A/c above) 10,25,000 - Material M (as per valuation above) 1,15,000
To Excise Duty (CENVAT availed) 2,40,000 - Material N (as per valuation above) 1,80,000
To Conversion Costs (4,000 x 150) 6,00,000 - Finished Goods (as per vain above) 4,83,750
To Gross Profit c/d 7,43,750
Total 29,98,750 Total 29,98,750
Note: It is assumed that Sale Prices of Rs.700 and Rs.750 are inclusive of the Duty of Rs.60 per unit on FG.
5. (b) Reconciliation of Profits
Particulars Rs.
Profits for Output Sold: Cash Sales: 3,000 x 20% * (700 - 483.75)
Credit Sales: 3,000 x 80% x (750-483.75)
1,29,750
6,39,000
Total Profit based on Quantity Sold
Less: Excess Cost of Opening Stock of Materials not considered in FG Valuation:
M: 2,000 kgs x (Rs.120 - Rs.l 15) (all prices net of ED)
N: 1,500 kgs x (Rs. 100 - Rs. 90) (all prices net of ED)
7,68,750
10,000
15,000
Profit as per above PL Account 7,43,750
6. Computation of Working Capital as on 30th
April
Particulars Rs.
A. Current Assets: Raw Materials Stock Material M 1,15,000
Material N 1,80,000 2,95,000
Finished Goods Stock Bonded Warehouse 3,87,000
Finished Goods Godown 96,750 4,83,750
Debtors/Customers 18,00,000
Bank Balance 4,20,000
CENVAT Credit Receivable 1,00,000
Total Current Assets 30,98,750
B. Current Liabilities: Suppliers/Sundry Creditors 17,55,000
C. Net Working Capital (A - B) 13,43,750
Impact of CENVAT on Working Capital Requirements:
• 3,000 units of Finished Goods have been despatched by way of sale without payment of a single rupee in
cash. Cash outlay so saved at Rs.60 perunit is Rs.2,40,000. (i.e. to the extent of CENVAT Credit Availed).
• Creation of a Current Assess worth Rs. 1,00,000 in CENVAT Credit Receivable Account, reduces the pressure
on Working Capital.

501
Illustration 3: CENVAT on Capital Goods
A Company purchased a plant for Rs.50 Lakhs during the ﬁnancial year and installed it immediately. The price
charged by the Vendor included Excise Duty (CENVAT Credit Available) of Rs.5 Lakhs. During this year, the
Company also produced excisable goods on which Excise Duty chargeable is Rs.4.50 Lakhs. Show the Journal
Entries describing CENVAT Credit treatment. At what amount should the Plant be capitalized?
Solution:
1. Journal Entries
S. No. Transaction and Entry Debit Credit
1 Fixed Assets A/c Dr.
CENVAT Credit Rec’ble (Capital Goods) A/c Dr.
CENVAT Credit Deferred (Capital Goods) A/c Dr.
To Asset Vendor / Bank A/c
(Being Plant purchased recorded, including immediate CENVAT Credit
.mailable of 50%, balance 50% (assumed) credit available in subsequent year)
45,00,000
2,50,000
2,50,000
50,00,000
2 Excise Duty A/c Dr.
To CENVAT Credit Recble (Capital Goods)
(Being set off of CENVAT Credit during the year)
2,50,000
2,50,000
3 Excise Duty A/c Dr.
To Bank
(Being balance Excise Duty payable Rs.4,50,000 Rs.2,50,000 set-off, now
2,00,000
2,00,000
4 Subsequent Financial Year
CENVAT Credit Rec’ble (Capital Goods) A/c Dr.
To CENVAT Credit Deferred (Cap. Goods)
(Being transfer of balance CENVAT Credit available on Capital Goods)
2,50,000
2,50,000
2 Balance Sheet (abstract)
Fixed Assets: Plant at Cost 45,00,000
Less: Depreciation ??
Current Assets, Loans and Advances:
CENVAT Credit Deferred (Cap. Goods) 2,50,000
6. State Level Value Added Tax (VAT)
1. Salient Features of VAT:
(a) VAT Credit: A registered dealer (trader/manufacturer) is entitled to an input tax credit (called as VAT
Credit), in respect of taxes paid on purchases made during the period, where the purchases arise in the
course of his activities as a dealer.

502
(b) Set Off Facility: VAT Credit is jillowed for purchase of inputs/supplies meant for sale, or for utilization
in the process of production for such sale, irrespective of when these are utilized/sold, and reduces the
immediate tax liability of the dealer.
(c) Purchase within State: VAT Credit is available for all for purchase of inputs/supplies in a State, meant
for sales within the State or sale in other States. Even for Stock Transfer/Consignment Sales of goods
out of the State, input tax paid in excess of a certain percentage is eligible for VAT Credit. VAT Credit
is not allowable for taxes paid on purchases from other States.
(d) Refund of Excess VAT Credit: Where VAT Credit exceeds the tax payable on sales in a month, the
excess credit is carried over to the future month(s). Any excess unadjusted VAT Credit at the end of the
specified period, is eligible for refund.
(e) VAT Goods, Exempt and Zero Rate Goods: VAT legislation of each State will specify the goods which
are covered under VAT, and the relevant VAT rates. In case of “exempt” goods, the dealer is not eligible
to claim VAT Credit for tax paid on the purchase of inputs. However, in case of “Zero Rate” Goods, the
dealer is eligible to claim VAT Credit for tax paid on the purchase of inputs. Also, Goods not covered
by VAT are taxed under the Sales Tax Act or other Act.
(f) Export Sales: Export Sales are “Zero Rate” Sales under VAT. Hence, VAT need not be charged and paid
on Sales made. However, the Exporter is entitled to VAT Credit in respect of tax paid within a State on
the purchase of inputs. This VAT Credit is not restricted only to those goods which are meant or used in
the manufacture of exports. If in any tax period, the VAT Credit exceeds the output tax, and the dealer
has declared international exports in the same tax period, he can claim refund of excess VAT credit.
The units located in SEZ/EOU’s are either exempted from payment of input tax, or eligible for refund
of input tax paid, within a specified period.
(g) Deferral Scheme: In some State VAT laws, industrial units may be granted deferral facility for payment
of tax, net of VAT Credit, i.e. output tax is collected from customers at the time of making sale; but the
payment (after setting off VAT Credit on inputs) is deferred to a future point of time.
(h) Capital Goods – 36 months spread over: VAT Credit is also available on capital goods (except a few
items included in the negative list of respective State laws). This may be adjusted over a maximum of 36
equal monthly instalments. However, some States may reduce the number of instalments or may grant
full credit in the month of purchase of Capital Goods.
(i) Small Dealers – Composition Scheme: Small dealers with annual gross turnover not exceeding
specified limits, who are otherwise liable to pay VAT, however, have the option to pay tax under the
Composition Scheme. Such dealers may pay tax at a prescribed small percentage of the Gross Turnover,
and are not entitled to any VAT Credit.
(j) Works Contracts: Dealers executing Works Contracts may have the following options - (a) pay tax on
the value of goods at the time of incorporation of goods in the works executed, at the rates applicable
to those goods; or (b) pay tax under composition scheme, at a prescribed rate on the total consideration
received. In the second case, such dealers may not be entitled to any VAT Credit or may be eligible for
partial VAT Credit.
2. VAT Credit in case of Inputs/Supplies: The Accounting treatment illustrated herebelow is required only
where VAT Credit is available. Hence, it is not required in the situations given below —
(a) Dealers not registered under VAT;
(b) Dealers having turnover below the specified limits and opting for Composition Scheme;
(c) Dealers engaged in Works Contracts and opting for tax by way of composition; and
(d) Purchase of goods from Unregistered Dealers (not eligible for VAT Credit).

503
Suggested Accounting Treatment
1 Purchase of Inputs (with VAT thereon)
Purchases A/c (different category items) Dr.
VAT Credit Receivable (Inputs) A/c Dr.
To Suppliers / Sundry Creditors / Bank A/c
Purc Price net of VAT
VAT Paid on Purchases
Purc Price incl. VAT
2 Sale of goods
Bank/Sundry Debtors A/c Dr.
To Sales A/c (different category items)
To VAT Payable A/c
Price incl. VAT on
Sales Price excl. VAT
VAT Colin on Sales
3 Set-off of VAT Credit
VAT Payable A/c Dr.
To VAT Credit Receivable (Inputs) A/c
VAT Credit available or VAT payable,
whichever is less
4 Payment of balance VAT (if credit recble is less)
VAT Payable A/c Dr.
To Bank
To be passed at the time of payment
To the extent of VAT actually paid in cash,
i.e. when Credit Rec’ble VAT Payable on
Note:
• Disclosure in Balance Sheet:
(i) Debit balance in VAT Credit Receivable (Inputs), if any, will be shown on the Assets Side of the Balance
Sheet under the head “Loans and Advances”.
(ii) Alternatively, credit balance in VAT Payable A/c, if any, will be shown under “Current Liabilities”.
Where the dealer enjoys deferral beneﬁts of VAT Payable, the credit balance will be shown as Long
Term Liability.
• Common Inputs:
(i) Where common inputs axe used for making taxable sales as well as exempt sales, the dealer should,
on the date of purchase, estimate the inputs expected to be used for making the taxable sales and for
making exempt sales,
(ii) VAT Credit should be recognized only in respect of inputs which are expected to be used in making
taxable sales. No VAT Credit should be recognized on inputs which are expected to be used in making
exempt sales,
(iii) Where the actual use is different from the estimated use, an adjustment entry should be passed.
• Stock Transfer/Consignment Sale: In case of Stock Transfer/Consignment Sale of goods outside the State
where VAT Credit is available only to an extent of input tax paid, the dealer should estimate the expected
Stock Transfers/Consignment Sales and account for accordingly.

504
3. VAT Credit in case of eligible Capital Goods:
1 Purchase of Capital Goods (with VAT thereon)
Fixed Assets A/c Dr. Purchase Price net of VAT
VAT Credit Deferred (Capital Goods) A/c Dr. VAT paid on Purchases Purchase Price
incl. VAT
To Asset Vendor / Bank A/c
2 Transfer of VAT Credit Rec’ble during the year
VAT Credit Recble (Capital Goods) A/cDr.
To VAT Credit Deferred (Capital Goods)
Credit available during the year as per the
relevant State VAT Law
Note:
• Debit balance in VAT Credit Receivable (Capital Goods) A/c (after utilization for set-off for payment during
the period) and Debit balance in VAT Credit Deferred (Capital Goods) A/c i.e. balance Credit Available for
use in subsequent periods, will be shown on the Assets Side of the Balance Sheet under the head “Loans and
Advances”.
• Depreciation on Machinery will be charged on the Purchase Price net of VAT.
4. Adjustment (i.e. Debit) to VAT Credit Receivable A/c -
Situation Treatment Other Points
(a) Set-off of VAT Payable on
Sales
VAT Payable A/c Dr.
To VAT Credit Rec’ble
No change in Input Stock
Valuation.
(b) Disallowance of VAT Credit on
purchases during the period
Purchases / Raw Material A/c Dr.
increased to include VAT
(c) Disallowance of VAT Credit on
purchases of previous periods
If such inputs are used/sold during the
year; (prior period item)
Proﬁt and Loss A/c Dr.
If such inputs are still in stock at the end
of year: Same entry in (b) above.
increased in include VAT
(d)Disallowance of VAT Credit
on Capital Goods (See Note
below)
If asset is still in use:
Relevant Asset A/c Dr.
If asset no longer exists:
Proﬁt and Loss A/c Dr.
Deprn to be charged on
revised amt, incl. VAT
Appropriate disclosure to
be made in a/cs.
Note: In situation (d) above, where the VAT Credit disallowed on Capital Goods is VAT Credit Deferred
(Capital Goods) Account and has not be transferred to VAT the former account shall be credited while
passing the Journal Entries.
5. Inventory Valuation Principles: The principles of inventory valuation are summarized below -
Item Valued Inventory Valuation Principle
Inputs where VAT Credit Availed Purchase Price net of Input VAT.
Inputs if VAT Credit Not Availed Total Purchase Price, including Input VAT.
e.g. purchases without requisite documents for availing VAT credit, purchases
from small dealers who are exempted from VAT; purchases from unregistered
dealers who are not eligible to issue VAT Invoice etc.
Final Products Value of Inputs should be net of VAT on inputs i.e. Purchase Price, net
of Input VAT.
Capital Goods, Components etc. Purchase Price net of Input Duty

505
6. Income Accounting: Sales should be reported net of VAT. Hence, VAT Collection and VAT Payment
should not be treated as Income and Expense respectively. VAT charged and collected by a dealer on Sales
made by him should be credited separately to “VAT Payable Account”. When a dealer has not charged
VAT separately, but has made a composite charge, he should segregate the portion of Sale Price and VAT
Collection at periodic intervals and credit the VAT Collection to “VAT Payable Account”.
7. VAT Refund Accounting: Input tax which cannot be adjusted against VAT payable over the speciﬁed
period of time and input tax paid on purchases made for exports, are eligible for refund. Refund of such
VAT is recorded by the following entry –
Bank A/c Dr. Refund Amount received
To VAT Credit Receivable (Inputs/Capital Goods) A/c
8. VAT Credit on Inputs lying in Stock at the beginning of the Scheme: VAT Credit is also available on tax-
paid goods lying in stock at the inception of the VAT Scheme, if required documents are available with the
dealer. The suggested accounting treatment is -
Transaction and Entry Debit Credit
VAT Credit available on Opening Stock
VAT Credit Receivable (Inputs) A/c Dr.
VAT Credit Deferred (Opening Stock) A/c
Dr.
If Credit is available
immediately
If Credit is available in future Credit Available
Note:
• A Transfer Entry will be made from VAT Credit Deferred (Opening Stock) A/c to VAT Credit Receivable
(Inputs) A/c, as and when VAT Credit on Opening Stock becomes available.
• VAT Credit Available on Opening Stock A/c (Credit Balance) will be shown as a deduction from
“Opening Stock” in the Proﬁt and Loss Account.
Illustration 1: VAT Accounting – Inputs / Supplies – Basics
The details of purchases made by a Registered Dealer during March are –
Particulars Total Purchase Value Input Tax Paid Net Balance Amount
4% VAT Goods
12.5% VAT Goods
VAT Exempt Goods
Rs.20,80,000
Rs. 18,00,000
Rs. 4,00,000
Rs. 80,000
Rs.2,00,000
–
Rs.20,00,000
Rs. 16,00,000
Rs. 4,00,000
Total Rs.42,80,000 Rs.2,80,000 Rs.40,00,000
The above input tax paid is fully eligible for VAT Credit. The details of Sales during this month are -
Particulars Total Sale Value Output Tax Collected Net Sales Consideration
4% VAT Goods
12.5% VAT Goods
VAT Exempt Goods
Rs.22,88,000
Rs.20,25,000
Rs. 5,00,000
Rs. 88,000
Rs.2,25,000
Rs.22,00,000
Rs. 18,00,000
Rs. 5,00,000
Total Rs.48,13,000 Rs.3,13,000 Rs.45,00,000
Suggest the accounting treatment for the above.

506
Solution:
S.No. Particulars Debit Credit
1 4% VAT Goods Purchase A/c Dr. 20,00,000
12.5% VAT Goods Purchase A/c Dr. 16,00,000
VAT Exempt Goods Purchase A/c Dr. 4,00,000
VAT Credit Receivable (Inputs) A/c Dr. 2,80,000
To Bank/Suppliers/Sundry Creditors 42,80,000
(Being purchases of various goods and input tax thereon paid)
2 Bank/Customers/Sundry Debtors A/c Dr. 48,13,000
To 4% VAT Goods Sales A/c 22,00,000
To 12.5% VAT Goods Sales A/c 18,00,000
To VAT Exempt Sales A/c 5,00,000
To VAT Payable A/c 3,13,000
(Being sale of various goods and VAT collection thereon)
3 VAT Payable A/c Dr.
To VAT Credit Receivable (Inputs) A/c
(Being set-off of VAT Credit against liability for VAT payment)
2,80,000 2,80,000
• At the end of this month, the balance in VAT Payable A/c Rs. 33,000 will be displayed in the
B/Sheet under the head “Current Liabilities”.
• The dealer may include the following disclosures in the Notes: (a) Cost of Inventories is net of VAT
Credit; (b) Sales are exclusive of VAT.
4 For payment of VAT in the subsequent month
VAT Payable A/c Dr.
To Bank A/c
(Being liability for VAT of previous month, now settled)
33,000
33,000
Illustration 2: VAT Accounting – Capital Goods – Basics
On 1st June, a Registered Dealer purchased a Machinery for Rs.93,60,000 which includes State VAT of Rs.3,60,000.
As per the State VAT Laws, the input VAT on Capital Goods is adjustable in 36 equal monthly instalments
beginning from 1st July of the year. During the ﬁnancial year, the dealer has set-off a sum of Rs.25,000 from the
VAT Credit Receivable on Capital Goods, against VAT payable on the sales made by him. The dealer charges
10% p.a. depreciation on Machinery. Suggest the accounting treatment for the above.

507
Solution:
S.No. Particulars Debit Credit
1 Machinery A/c Dr.
VAT Credit Deferred (Capital Goods) A/c Dr.
To Bank/Asset Vendor
(Being machinery purchased and input tax thereon paid)
90,00,000
3,60,000
93,60,000
2 VAT Credit Receivable (Capital Goods) A/c Dr.
To VAT Credit Defeired (Capital Goods) A/c
(Being VAT Credit availaole on Capital Goods for the current period
i.e. 1st
July to 31st
March = Rs.3,60,000 x 9/36 = Rs.90,000)
90,000
90,000
3 VAT Payable A/c Dr.
To VAT Credit Receivable (Capital Goods) A/c
(Being set-off of VAT Credit against liability for VAT payment)
25,000
25,000
4 Depreciation A/c Dr.
To Machinery A/c
(Being Depreciation on Machinery = Rs.90,00,000 x 10% x 10/12)
7,50,000
7,50,000
Balance Sheet as on 31st
March end of financial year) (abstract)
Fixed Assets: Machinery 90,00,000
Less: Depreciation 7,50,000
Current Assets, Loans and Advances
VAT Credit Deferred (Capital Goods)
VAT Credit Receivable (Capital Goods)
82,50,000
2,70,000
65,000
5.10 Guidance Notes on Derivatives
ACCOUNTING FOR EQUITY INDEX AND EQUITY STOCK OPTIONS
1. Financial Instrument
1. Meaning: Financial Instrument is a contract giving rise to a Financial Asset to an enterprise and Financial
Liability to another. They include -
(a) Primary Instruments i.e. Equity Shares, Preference Shares; Debentures etc. and
(b) Derivative Instruments Options, Futures, Forwards, Swaps etc. However Commodity Derivatives are
not Financial Instrument.
2. Financial Asset: It includes (a) Cash; (b) Contractual Right to receive cash or other financial asset from
another enterprise; (c) Contractual Right to exchange financial instruments with another enterprise which is
potentially favourable; and (d) Equity Instruments of another enterprise.
3. Financial Liability: It is a contractual obligation to - (a) deliver cash or other financial asset to another
enterprise, or (b) to exchange a financial instrument with another enterprise that is potentially
unfavourable.

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2. Interest Rate Swap.
1. Nature: Interest Rate Swap is a financial contract between two parties to exchange a set of payments to
minimize the interest cost to either of them.
2. Exchange of Payment Obligation: It involves exchange of one interest rate payment with other interest
rate payment where the principal (an agreed amount called notional principal) is denominated in the same
currency and is of the same value for an agreed period of time.
3. Interest on Obligations: One of the payment obligations exchanged will be entail a Floating Rate of Interest
and the other will entail a Fixed Rate of Interest Payment.
4. Swap Bank: The parties to the Contract upon entering into the Contract, transact the payment obligations
through the Swap Bank an intermediary to effect the Interest Rate Swap.
3. Currency Options relating to Foreign Exchange.
1. Meaning: Currency options give the client the right, but not the obligation, (a) to buy – in case of a put
option; (b) sell - in case of a call option, a specific amount of currency at a specific price on a specific date.
2. Risk Hedging Tool: They act as a useful tool to hedge foreign exchange risk arising out of the Firm’s
operations. They help remove the downside risk without limiting the upride potential.
4. Derivatives: Meaning of Characteristics.
1. Meaning:
(a) Derivative is a product whose value is derived from the value of one or more basic variables called
bases i.e. value of an underlying asset.
(b) Derivative is a forward, future, option or any other hybrid contract of pre-determined fixed duration,
linked for the purpose of contract fulfillment to the value of a specified real or financial asset or to an
index of securities.
2. Bases/Underlying Asset: The underlying asset can be Securities, Commodities, Bullion, Currency, Live-
stock (Index) or anything else.
3. SCRA Definition: As per Securities Contracts (Regulation) Act, derivative includes -
(a) a security derived from a debt instrument, share, loan, whether secured or unsecured, risk instrument
or contract for differences or any other form of security; or
(b) a contract which derives its value from the prices, or index of prices, of underlying securities.
4. Features:
(a) It has one or more underlying asset and one or more notional amounts or payments provisions or both.
These terms determine the amount of settlement(s) and in some cases, whether or not settlement is
required.
(b) It requires no initial net investment or an initial net investment that is smaller than what is required for
similar responses to change in market factors.
(c) Its terms require or permit net settlement; it can be readily settled net by means outside the contract or
it provides for delivery of an asset that puts the recipient in a position not substantially different from
net settlement.

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5. Futures Contract.
1. Futures Contract means a legally binding agreement to buy or sell the underlying security on a future
date.
2. Futures Contracts are the organized/standardized contracts in terms of quantity, quality (in case of
commodities), delivery time and place for settlement on any date in future.
3. The contract expires on a pre-specified date which is called the expiry date of the contract. On expiry,
futures can be settled by delivery of the underlying asset or cash. Cash settlement enables the settlement of
obligations arising out of the future/option contract in cash.
6. (i) ‘Option’ and ‘Option Premium’? (ii) “Buyer or Holder” “Seller or Writer” of an Option?
(iii) How Option Contract operates.
1. Meaning: Option is a type of derivative instrument whereby a person gets the right to buy or sell at an
agreed amount an underlying asset on or before the specified future date.
2. Buyer/Holder: The person who gets such right is called ‘Buyer’ or ‘Holder’.
3. Seller/Writer: The person against whom the buyer/holder can exercise his right is called ‘Seller’ or
‘Writer’.
4. Obligation to Buy/Sell:
(a) The Buyer/Holder of the Option has the right but not the obligation to buy or sell.
(b) The seller/writer of an option has no right but has an obligation to sell/buy the underlying asset as
and when the buyer/holder exercises his right.
5. Option Premium: Option Premium is the price paid by the buyer/holder to the seller writer of an option
for acquiring the right of option.
6. Tenor of Options Contract: Every option contract is for a specific period of time. On the expiry of the
specified period, the contract also expires. The period of time is specified in the contract itself.
7. Strike Price/Exercise Price: The price at which the buyer/holder has the right to buy or sell and the seller/
writer has an obligation to sell or buy is known as the Strike/Exercise price.
8. Minimum/Maximum Gain or Loss: The extent of loss/gain to parties to the Contract is as under –
Party Buyer Seller
Loss Amount of loss is restricted to the premium
paid to the Seller of the Option.
Unlimited Loss
Gain Unlimited Gain Maximum Gain is limited to the option
premium charged by him from the buyer.
9. Assets traded under Options Contract: There can be options on commodities, currencies, securit

Advanced Financial Accounting Ed. 11th.pdf

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Advanced Financial Accounting Ed. 11th.pdf