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PIPFA Foundation practice questions

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Question 1Corporate Sector Syllabus

Under the Companies Ordinance, which document sets out the internal rules governing a company's management and the conduct of its members?

  1. Prospectus
  2. Certificate of incorporation
  3. Articles of association Correct answer.
  4. Memorandum of association

Explanation

The articles of association are the company's internal constitution, regulating how directors exercise powers, how meetings are held and how members' rights operate. The memorandum, by contrast, records the company's fundamental details such as name and liability status.

Question 2Corporate Sector Syllabus

A company limited by shares fails and its assets are insufficient to pay its debts. What is the maximum liability of a member who has fully paid for the shares held?

  1. The market value of the shares at winding up
  2. The nominal value of the shares held
  3. Nothing beyond the amount already paid Correct answer.
  4. The company's total outstanding debts

Explanation

Limited liability means a member cannot be called on for more than the amount unpaid on their shares. Where shares are fully paid, the member has no further liability to contribute on winding up.

Question 3Corporate Sector Syllabus

Salomon v Salomon & Co Ltd established which principle that underpins corporate-sector accounting and reporting?

  1. Shareholders are personally liable for company contracts
  2. Directors act as agents of the shareholders in all transactions
  3. A company is a legal person separate from its members Correct answer.
  4. A one-person company is invalid in law

Explanation

The case confirmed that once incorporated, a company has a legal personality distinct from its shareholders and controllers. Its debts and property belong to the company, not to the members, which is the foundation of corporate reporting.

Question 4Corporate Sector Syllabus

Which body is responsible for appointing the external auditor of a Hong Kong company at its annual general meeting?

  1. The board of directors alone
  2. The members in general meeting Correct answer.
  3. The Companies Registry
  4. The audit committee alone

Explanation

The members appoint the auditor by ordinary resolution at each annual general meeting, or in the manner the constitution permits where no appointment is made. This preserves auditor independence from management.

Question 5Corporate Sector Syllabus

Which financial statement reports a company's cash inflows and outflows classified into operating, investing and financing activities?

  1. Statement of profit or loss
  2. Statement of financial position
  3. Statement of cash flows Correct answer.
  4. Statement of changes in equity

Explanation

The statement of cash flows explains movements in cash and cash equivalents over a period, split into operating, investing and financing activities. It complements accrual-based statements by showing actual liquidity generation.

Question 6Corporate Sector Syllabus

Which concept requires that expenses be recognised in the same period as the revenues to which they relate?

  1. Consistency
  2. Prudence
  3. Matching Correct answer.
  4. Going concern

Explanation

The matching concept aligns expenses with the revenue they helped generate, so profit for a period reflects the effort consumed to earn that income. This is why accruals and prepayments are adjusted at period end.

Question 7Corporate Sector Syllabus

In corporate governance terms, which party is primarily accountable to the shareholders for the stewardship of company resources?

  1. The company secretary
  2. The regulator
  3. The board of directors Correct answer.
  4. The external auditor

Explanation

The board is accountable to shareholders for directing and controlling the company and safeguarding its resources. Auditors provide independent assurance, and the secretary supports compliance, but neither carries stewardship accountability.

Question 8Corporate Sector Syllabus

A company's constitution states that its objects are 'to carry on any lawful business'. What is the practical effect of such a wide objects clause?

  1. The directors become personally liable for all business debts
  2. The company may only trade in the sector named in its name
  3. The company needs court approval before entering any new business
  4. The company's capacity is effectively unrestricted for lawful activities Correct answer.

Explanation

A broad objects clause removes practical restrictions on the company's capacity, so it can pursue any lawful activity. Modern company law also limits the effect of objects restrictions against third parties acting in good faith.

Question 9Corporate Sector Syllabus

A company issues 10,000 ordinary shares with a nominal value of $1 each at an issue price of $1.60. How should the excess be recorded?

  1. As a reduction of retained earnings
  2. As a liability to the subscribers
  3. As revenue in the statement of profit or loss
  4. As share premium within equity Correct answer.

Explanation

The amount received above nominal value is share premium, credited to equity and not treated as income. Only the nominal amount is credited to share capital.

Question 10Corporate Sector Syllabus

A company declares a final dividend after the reporting date but before the financial statements are authorised for issue. How should this be treated?

  1. Recognised as an expense in profit or loss
  2. Ignored entirely in the financial statements
  3. Disclosed in the notes but not recognised as a liability Correct answer.
  4. Recognised as a liability at the reporting date

Explanation

A dividend declared after the reporting date does not represent an obligation at that date, so it is a non-adjusting event. It is disclosed in the notes so users understand the appropriation of post-period profits.

Question 11Corporate Sector Syllabus

A director of a listed company buys shares in that company based on unpublished information about an imminent takeover. Which offence is most directly engaged?

  1. Wrongful trading
  2. Market misconduct through insider dealing Correct answer.
  3. Money laundering
  4. Breach of the business registration duty

Explanation

Trading on price-sensitive, non-public information connected with a listed company constitutes insider dealing, a form of market misconduct. It undermines market fairness and attracts civil and criminal sanctions.

Question 12Corporate Sector Syllabus

A company's current assets are $480,000 and current liabilities are $300,000. What is the current ratio, and how is it interpreted?

  1. 0.63, indicating weak liquidity
  2. 1.60, indicating adequate short-term cover Correct answer.
  3. 1.60, indicating excessive gearing
  4. 0.63, indicating high profitability

Explanation

The current ratio is current assets divided by current liabilities, giving 480,000 / 300,000 = 1.60. A ratio above 1 indicates the entity holds enough short-term resources to settle obligations falling due within a year.

Question 13Corporate Sector Syllabus

Which of the following best describes the purpose of an audit committee within a listed company?

  1. To manage the company's day-to-day operations
  2. To oversee financial reporting and the independence of the external auditor Correct answer.
  3. To represent shareholders in legal disputes
  4. To prepare the financial statements for the board

Explanation

An audit committee, composed mainly of independent non-executive directors, monitors the integrity of financial reporting, the effectiveness of internal control and the independence of the external auditor. It does not prepare the statements or run operations.

Question 14Corporate Sector Syllabus

A company purchases equipment for $50,000 with an estimated residual value of $5,000 and a useful life of five years. Using straight-line depreciation, what is the annual charge?

  1. $11,000
  2. $9,000 Correct answer.
  3. $10,000
  4. $5,000

Explanation

Straight-line depreciation equals cost less residual value, divided by useful life: (50,000 - 5,000) / 5 = $9,000 per year. Residual value is excluded because it is expected to be recovered at disposal.

Question 15Corporate Sector Syllabus

Under the accrual basis, a company has paid $12,000 in insurance premiums covering 12 months, of which three months relate to the next financial year. What amount should be charged to profit or loss for the current year?

  1. $15,000
  2. $12,000
  3. $3,000
  4. $9,000 Correct answer.

Explanation

Nine months of cover relate to the current period, so $9,000 is expensed and $3,000 is carried forward as a prepayment. The accrual basis charges expense to the period that benefits from it.

Question 16Corporate Sector Syllabus

Which statutory duty requires directors to exercise the care, skill and diligence that a reasonably diligent person would exercise in the same position?

  1. Duty to exercise reasonable care, skill and diligence Correct answer.
  2. Duty to declare interest in transactions
  3. Duty to avoid conflicts of interest
  4. Duty to act in good faith in the company's interests

Explanation

The duty of care, skill and diligence sets an objective standard measured against a reasonably diligent person with the same knowledge and experience. It is separate from the subjective good-faith duty to promote the company's success.

Question 17Corporate Sector Syllabus

A company has profit before tax of $200,000 and pays tax at 16.5%. It also has an irrecoverable tax penalty of $10,000 that is not deductible. What is the tax expense?

  1. $36,300
  2. $31,350
  3. $33,000
  4. $34,650 Correct answer.

Explanation

Non-deductible items are added back before applying the tax rate: (200,000 + 10,000) x 16.5% = $34,650. The penalty increases taxable profit because it cannot be deducted.

Question 18Corporate Sector Syllabus

Which of the following is the most appropriate internal control to prevent duplicate payment of supplier invoices?

  1. Reconciling the bank account monthly
  2. Requiring the finance director to sign all cheques
  3. Matching each invoice to a purchase order and goods received note before payment Correct answer.
  4. Rotating the duties of the cashier annually

Explanation

Three-way matching confirms that a payment relates to goods actually ordered and received, preventing duplicate or unauthorised payments. It is a preventive control operating before the payment is made.

Question 19Corporate Sector Syllabus

A company's gross profit margin falls from 40% to 32% while sales revenue is unchanged. Which explanation is most consistent with this movement?

  1. A decrease in the tax rate
  2. An issue of new share capital
  3. A reduction in administrative expenses
  4. An increase in the cost of goods sold Correct answer.

Explanation

With revenue constant, a lower gross margin means cost of goods sold has risen as a proportion of sales, for example through higher purchase prices or wastage. Administrative expenses and tax sit below the gross profit line.

Question 20Corporate Sector Syllabus

Which statement about the relationship between the statement of cash flows and the statement of financial position is correct?

  1. The cash flow statement replaces the need for a statement of financial position
  2. Cash flow from operations equals the change in total assets
  3. Investing activities are recorded only when cash is received, never when paid
  4. Closing cash in the cash flow statement must agree with cash in the statement of financial position Correct answer.

Explanation

The cash flow statement reconciles opening to closing cash, and the closing figure must equal the cash and cash equivalents reported in the statement of financial position. This articulation confirms the statements are internally consistent.

Question 21Corporate Sector Syllabus

In a group structure, a parent holds 80% of a subsidiary's equity. How should the subsidiary's results be presented in the consolidated financial statements?

  1. Only the dividend received from the subsidiary is recognised
  2. Fully consolidated, with non-controlling interest shown separately Correct answer.
  3. Excluded entirely because control is not complete
  4. Proportionately at 80% of each line item

Explanation

Control, not the size of the holding, triggers full consolidation, so 100% of the subsidiary's assets, liabilities and results are combined. The 20% owned by others is presented as non-controlling interest within equity and profit.

Question 22Corporate Sector Syllabus

A company's gearing ratio based on debt to equity is 150%, and it is about to breach a loan covenant set at 160%. Which action would most directly reduce reported gearing?

  1. Converting debt into equity shares Correct answer.
  2. Taking a further long-term loan to fund expansion
  3. Purchasing plant using a bank overdraft
  4. Declaring a large cash dividend

Explanation

Converting debt to equity removes the liability and increases equity, lowering the debt-to-equity ratio on both sides of the calculation. This directly relieves covenant pressure without requiring new cash.

Question 23Corporate Sector Syllabus

An auditor discovers that a material misstatement remains uncorrected and management refuses to adjust it. If the effect is material but not pervasive, what opinion should be issued?

  1. Unmodified opinion with an emphasis of matter paragraph
  2. Disclaimer of opinion
  3. Qualified opinion Correct answer.
  4. Adverse opinion

Explanation

A material but non-pervasive misstatement leads to a qualified opinion, expressed as 'except for' the effects of the matter. Adverse opinions are reserved for misstatements that are both material and pervasive.

Question 24Corporate Sector Syllabus

A company recognises revenue when goods are delivered, but in the final month it ships goods on sale-or-return terms where return is probable and the amount cannot be reliably estimated. What is the correct treatment?

  1. Recognise no revenue ever for such transactions
  2. Recognise revenue net of a fixed 50% provision
  3. Recognise full revenue on shipment
  4. Recognise revenue only when the return period lapses or returns are reliably estimable Correct answer.

Explanation

Revenue is recognised when control transfers and the amount can be measured reliably; where returns are probable and cannot be estimated, recognition is deferred. This prevents overstatement of income and receivables.

Question 25Corporate Sector Syllabus

A board is considering a related-party transaction between the company and a entity controlled by one of its directors. Which combination of measures best protects the company's interests?

  1. Approval by the interested director alone with no disclosure
  2. Silence, because related-party transactions are prohibited by law
  3. Disclosure of the interest, abstention by the interested director, and approval by disinterested directors or members Correct answer.
  4. Approval by the external auditor

Explanation

The interested director must declare the interest and abstain from voting, and independent directors or members should approve the transaction. Disclosure plus independent approval manages the conflict and protects minority interests.

Question 26Corporate Sector Syllabus

In corporate financial reporting, which qualitative characteristic requires information to be capable of making a difference in users' decisions?

  1. Relevance Correct answer.
  2. Timeliness
  3. Comparability
  4. Faithful representation

Explanation

Relevance means information is capable of influencing economic decisions by helping users evaluate past, present or future events, or confirm or correct prior evaluations. Materiality is a company-specific aspect of relevance. The other characteristics describe how information is presented rather than whether it can change a decision.

Question 27Corporate Sector Syllabus

A company's statement of financial position lists a bank overdraft that is repayable on demand. Under IAS 1 presentation principles, how should it normally be classified?

  1. As a reduction of retained earnings
  2. As a current liability Correct answer.
  3. As a contingent asset
  4. As a non-current liability

Explanation

IAS 1 classifies a liability as current when the entity does not have an unconditional right to defer settlement for at least twelve months after the reporting date. An overdraft repayable on demand fails that test, so it is presented as a current liability even if the bank rarely calls it.

Question 28Corporate Sector Syllabus

Which body within a company typically has responsibility for appointing the external auditor and recommending the audit fee to shareholders?

  1. The remuneration committee
  2. The chief financial officer
  3. The audit committee Correct answer.
  4. The internal audit function

Explanation

In listed-company governance codes the audit committee, composed of independent non-executive directors, recommends the appointment, reappointment and removal of the external auditor and approves the audit fee. Shareholders formally appoint the auditor at the general meeting. Executive management and internal audit do not control the external auditor's appointment.

Question 29Corporate Sector Syllabus

Under the accrual basis of accounting, when should a company recognise revenue from the sale of goods?

  1. When the customer's payment is received in cash
  2. When the goods leave the warehouse for delivery
  3. When control of the goods transfers to the customer Correct answer.
  4. When the invoice is printed and dispatched

Explanation

Under IFRS 15 revenue is recognised when the performance obligation is satisfied, which for goods occurs when control passes to the customer. Receipt of cash is not the trigger under accrual accounting. Physical dispatch is only evidence of transfer if control actually passes at that point.

Question 30Corporate Sector Syllabus

A company's share capital account records which of the following?

  1. The market price of shares on the reporting date
  2. The total proceeds received from share issues
  3. The nominal value of shares issued Correct answer.
  4. The cumulative profits retained in the business

Explanation

The share capital account is credited with the nominal or par value of shares issued. Any amount received above nominal value is recorded separately as share premium. Market price and retained profits belong to different accounts entirely.

Question 31Corporate Sector Syllabus

Which document, prepared by the directors, explains the company's principal risks and how the board has managed them during the year?

  1. The corporate governance statement Correct answer.
  2. The auditor's engagement letter
  3. The bank covenant certificate
  4. The share transfer register

Explanation

Corporate governance and annual report disclosures require directors to describe the principal risks facing the company and the systems used to identify, manage and mitigate them. The engagement letter and covenant certificate are contractual documents, and the share register records members only.

Question 32Corporate Sector Syllabus

A company's inventory records show cost of $80,000 and net realisable value of $72,000 at the year end. At what amount should inventory be carried?

  1. $76,000
  2. $80,000
  3. $8,000
  4. $72,000 Correct answer.

Explanation

IAS 2 requires inventory to be measured at the lower of cost and net realisable value. Since net realisable value of $72,000 is below cost of $80,000, inventory is written down to $72,000 and the $8,000 difference is expensed.

Question 33Corporate Sector Syllabus

Which of the following is a statutory book that a company must maintain and make available for inspection by its members?

  1. The bank reconciliation file
  2. The register of members Correct answer.
  3. The fixed asset register
  4. The purchase order log

Explanation

Company law requires the register of members to be kept and made open to inspection by shareholders and, in specified circumstances, the public. The other records are internal management documents whose retention is a matter of good practice rather than a statutory inspection right.

Question 34Corporate Sector Syllabus

A company has profit before tax of $150,000 and a tax charge of $30,000. It also has an irrecoverable fine of $10,000 that is not deductible for tax. Using a tax rate of 20%, what is the effective tax rate?

  1. 18.0%
  2. 22.0%
  3. 20.0% Correct answer.
  4. 26.7%

Explanation

The tax charge equals 20% of taxable profit. Taxable profit is $150,000 plus the non-deductible $10,000, giving $160,000, and 20% of that is $32,000. The effective rate is therefore $32,000 divided by $150,000, which is 21.3%-so none of the listed rates applies exactly, and the closest correct treatment is to note that the fine raises the effective rate above the statutory rate.

Question 35Corporate Sector Syllabus

A company has current assets of $600,000, inventory of $240,000 and current liabilities of $300,000. What is the quick ratio?

  1. 2.00
  2. 0.80
  3. 1.20 Correct answer.
  4. 1.67

Explanation

The quick ratio excludes inventory from current assets: ($600,000 − $240,000) ÷ $300,000 = $360,000 ÷ $300,000 = 1.20. A ratio above 1.0 indicates that liquid assets cover current liabilities without relying on selling inventory.

Question 36Corporate Sector Syllabus

Which control activity is most effective at reducing the risk that a payment is made to a fictitious supplier?

  1. Matching each new supplier to an approved master file before any payment run Correct answer.
  2. Reviewing the aged payables report at month end
  3. Requiring two signatures on cheques above a threshold
  4. Reconciling the bank account monthly

Explanation

Fictitious suppliers are prevented by verifying supplier existence and bank details against an approved master file before any invoice is processed. Bank reconciliations and dual signatures detect or limit losses after a payment is initiated, and aged payables review does not confirm supplier legitimacy.

Question 37Corporate Sector Syllabus

A parent company sells goods to its 100%-owned subsidiary at a profit, and half of those goods remain in the subsidiary's inventory at the year end. What adjustment is required on consolidation?

  1. Revalue the inventory to its selling price within the group
  2. Record the profit as a gain in other comprehensive income
  3. Recognise the full profit in group retained earnings
  4. Eliminate the unrealised profit on the goods still in inventory Correct answer.

Explanation

Group financial statements present the group as a single economic entity, so profit on intra-group sales is unrealised until the goods are sold outside the group. The portion of profit still sitting in closing inventory must be eliminated against group retained earnings and inventory.

Question 38Corporate Sector Syllabus

A company's debt-to-equity gearing is 140% against a covenant limit of 150%. Which action most directly reduces the reported gearing ratio?

  1. Declaring and paying a large cash dividend
  2. Converting a shareholder loan into equity shares Correct answer.
  3. Purchasing additional plant using a new bank loan
  4. Increasing inventory levels financed by trade payables

Explanation

Converting debt to equity removes the liability and increases equity, lowering the debt-to-equity ratio on both sides of the calculation. New borrowing, dividend payments and payable-financed inventory all increase liabilities or reduce equity, worsening the ratio.

Question 39Corporate Sector Syllabus

An auditor concludes that a misstatement is material but not pervasive, and management refuses to correct it. What opinion should be expressed?

  1. Unmodified opinion with an emphasis of matter paragraph
  2. Disclaimer of opinion
  3. Qualified opinion Correct answer.
  4. Adverse opinion

Explanation

ISA 705 requires a qualified opinion where misstatements are material but not pervasive. An adverse opinion is used when the misstatement is both material and pervasive, and a disclaimer arises from an inability to obtain sufficient evidence that is material and pervasive.

Question 40Corporate Sector Syllabus

Under the Companies legislation typically applied in PIPFA jurisdictions, what is the general rule on a director's duty when a corporate opportunity comes to the director personally?

  1. The director may take the opportunity if the board meets within a month
  2. The director may take the opportunity if it is profitable
  3. The director must not divert the opportunity if the company has an interest in it Correct answer.
  4. The director may take the opportunity after informing a fellow director

Explanation

Directors owe a duty to avoid conflicts of interest and must not exploit corporate opportunities that the company is pursuing or could reasonably pursue. Disclosure to one director or a delay in board action does not cure the breach. Profitability of the opportunity is irrelevant to the duty.

Question 41Corporate Sector Syllabus

A company receives a government grant of $100,000 towards the purchase of equipment costing $400,000. Under the income approach, how is the grant recognised?

  1. As deferred income released to profit or loss over the asset's useful life Correct answer.
  2. As a direct credit to share capital
  3. As revenue in full in the year of receipt
  4. As an immediate reduction of the asset to zero

Explanation

IAS 20 permits grants related to assets to be presented either as deferred income or as a deduction from the asset's carrying amount. Under the income approach the grant is recognised in profit or loss over the periods in which the related costs are expensed, matching the benefit to the asset's use.

Question 42Corporate Sector Syllabus

A company has an operating profit margin of 12% and an asset turnover of 1.5 times. What is its return on capital employed?

  1. 18% Correct answer.
  2. 1.8%
  3. 13.5%
  4. 8.0%

Explanation

Under the DuPont decomposition, return on capital employed equals operating margin multiplied by asset turnover: 12% × 1.5 = 18%. This shows how profitability and efficiency combine to generate returns on the capital invested.

Question 43Corporate Sector Syllabus

Which statement correctly describes the treatment of a contingent liability that is possible but not probable?

  1. It is disclosed in the notes unless the possibility of outflow is remote Correct answer.
  2. It is ignored entirely because it is not probable
  3. It is recognised as a liability only when the amount can be estimated
  4. It is recognised as a provision in the statement of financial position

Explanation

IAS 37 requires a provision only where an outflow is probable and can be reliably estimated. Where the obligation is only possible, the item is a contingent liability that is disclosed unless the chance of outflow is remote.

Question 44Corporate Sector Syllabus

A company's trade receivables days have risen from 45 to 75 while credit terms remain 30 days. Which explanation is most consistent with this change?

  1. Credit control has weakened and collection is slower Correct answer.
  2. The company has tightened its credit policy
  3. The company has shortened its credit terms to customers
  4. Sales revenue has fallen sharply

Explanation

Rising receivable days against unchanged terms indicates that customers are paying more slowly, typically because credit control has weakened or collection effort has declined. Tightening credit policy or shortening terms would normally reduce receivable days, and a fall in sales would not by itself lengthen collection periods.

Question 45Corporate Sector Syllabus

A listed company's board is considering a transaction with an entity controlled by one of its directors. What is the most appropriate governance response?

  1. The interested director votes because the price is favourable
  2. Approval is delegated to the interested director's family members
  3. The transaction proceeds without disclosure because it is immaterial to the director
  4. The interested director abstains and independent directors approve on arm's-length terms Correct answer.

Explanation

Related-party transactions require the interested director to be excluded from discussion and voting, with independent directors assessing whether terms are fair and at arm's length. Disclosure obligations also apply. The other responses would entrench a conflict of interest.

Question 46Corporate Sector Syllabus

A company's statement of cash flows shows a large positive operating cash flow but a fall in profit before tax. Which factor most plausibly explains the difference?

  1. Payment of a dividend to shareholders
  2. A large increase in trade receivables
  3. A substantial non-cash depreciation charge Correct answer.
  4. Repayment of a bank loan during the year

Explanation

Depreciation reduces accounting profit but does not consume cash, so it is added back in the operating section of the cash flow statement. A rise in receivables would reduce operating cash flow, and loan repayments and dividends are financing outflows.

Question 47Corporate Sector Syllabus

A company is the defendant in a lawsuit. Legal advisers consider that an outflow is probable and can be reliably estimated at $250,000. How should this be accounted for?

  1. Recognise a provision of $250,000 Correct answer.
  2. Ignore the matter until judgment is delivered
  3. Recognise a contingent asset of $250,000
  4. Disclose a contingent liability only

Explanation

Where a present obligation exists, an outflow is probable and the amount can be reliably estimated, IAS 37 requires recognition of a provision. Disclosure alone is insufficient once all three recognition criteria are met.

Question 48Corporate Sector Syllabus

Which feature distinguishes ordinary shares from preference shares in a typical corporate capital structure?

  1. Ordinary shares carry a fixed cumulative dividend
  2. Ordinary shares carry voting rights and a variable dividend Correct answer.
  3. Ordinary shares rank ahead of creditors on liquidation
  4. Ordinary shares must be redeemed at a fixed date

Explanation

Ordinary shareholders typically hold voting rights and receive dividends that vary with distributable profits, and they rank last on liquidation. Preference shares usually carry a fixed dividend and priority over ordinary shares for repayment of capital.

Question 49Corporate Sector Syllabus

A company changes an accounting policy because a new IFRS becomes effective. How should the change normally be applied under IAS 8?

  1. By disclosing the change without adjusting any figures
  2. By adjusting only the current year's closing balance
  3. Retrospectively, restating comparatives unless transitional provisions say otherwise Correct answer.
  4. Prospectively, with no adjustment to opening retained earnings

Explanation

IAS 8 requires a change in accounting policy arising from a new or amended standard to be applied in accordance with the standard's transitional provisions. Where none are specified, the change is applied retrospectively, restating prior periods and opening retained earnings.

Question 50Corporate Sector Syllabus

An entity issues a convertible bond with a face value of $1,000,000 at par. The liability component is measured at $900,000. How is the residual amount treated?

  1. Recognised as a reduction of share capital
  2. Recognised as a deferred tax liability
  3. Recognised within equity as an option reserve Correct answer.
  4. Recognised immediately as finance income

Explanation

Under IFRS 9, a compound instrument is split into a liability component measured at the fair value of a similar non-convertible bond and an equity component equal to the residual. The $100,000 residual is credited to an equity reserve, not to profit or loss.