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Sleeping Giant Ltd (SGL) is a listed company in Hong Kong operating in the electronic manufacturing and retailing sectors.

Sleeping Giant Ltd (SGL) is a listed company in Hong Kong operating in the electronic manufacturing

and retailing sectors. Draft financial statements of SGL have prepared by the immediate

past finance director, Martin Wong who retired on 30 March 2018. Extracts from the draft

financial statements for the year ended 31 March 2018 are:

$

Profit for the year ended 31 March 2018 4,700,000

Ordinary shares as at 31 March 2018 245,000,000

Retained earnings as at 31 March 2017 36,400,000

After a quick review of the completed draft financial statements, the new finance director discovered

the following matters that may result in adjustments to the draft figures given above:

(i) On 1 April 2014, SGL acquired a property for $15 million for the use as an office building.

The useful life of the building estimates to be 30 years from 1 April 2014 with no residual

value. Depreciation charges on the straight-line basis over its useful life. The value of the

land content of the property was immaterial.

During the year ended 31 March 2018, the planning authorities approved the land (where

the office building is now situated) to build industrial units on the site. On 31 December

2017, SGL ceased using the property as an office building and started development on 28

February 2018 to convert the property to an industrial unit for capital appreciation. The

fair values of the property were $25 million and $28 million respectively on 31 December

2017 and 28 February 2018. SGL adopts the cost model for owner-occupied property and

fair value model for investment property.

Martin does not know how to account for the change in use of property in the financial

statements at 31 March 2018 and therefore does not reflect such change in the financial

statements.

(ii) SGL and Dawn Manufacturing Co. Ltd (Dawn) signed a lease for a machine for production

purpose on 1 April 2017. The lease agreement is non-cancellable with a term of four years,

requiring equal rental payments of $138,125 by SGL with the first payment on 31 March

2018. The annual rental payment includes a non-lease element. Both Dawn and SGL estimate

the standalone price of the lease component and non-lease component are $121,550

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and $30,387.50 respectively. Dawn will pay SGL $25,557 as a cash incentive for entering

the lease by 1 April 2017.

The machine has a fair value at commencement of the lease of $370,000, an estimated

economic life of six years. Dawn believes that the machine has a residual value at the end

of the lease to be $80,476. The cost of the machine on Dawn's books immediately before

lease is $300,000. The lease contains no renewal options but SGL also guarantees the residual

value to be $45,226 at the end of the lease term. The machine will revert to Dawn at

the termination of the lease. SGL estimates the residual value of the machine to be $5,000.

The implicit interest rate of Dawn is 9% and is unknown by SGL. SGL uses the incremental

borrowing rate of 8%.

In the draft financial statements of SGL, SGL has treated the agreement as an exception to

a single model and recognized lease rental payment expense of $138,125. The lease incentive

received reports in other income. The machine is not a low value item.

(iii) SGL issued 100,000 $1,000 par value bonds to the market at par on 1 October 2017. The

bonds pay a semi-annual rate of interest of 3% based on nominal value. Interest payments

are on 31 March and 30 September per year. SGL has no intention to classify or designate

the bonds as fair value through profit or loss upon initial recognition.

The financial institution that organised the placement charged SGL $100,000. The effective

semi-annual return on the bonds, taking into account the issue costs, is 3.0117%. The

bonds listed in the Hong Kong Stock Exchange and, due to a persistent rise in market interest

rates, quoted at $996.40 per bond on 31 March 2018 and $989.50 per bond on 30

September 2018.

In the draft financial statements of SGL, the proceeds from the bond have included in share

capital. The issue costs have included in administrative expense. Interest paid has recognized

as dividend paid.

(iv) Ms. Deborah Lam, CEO of SGL, has just returned from an annual visit on 1 January 2017

with the company's banker to present SGL's financial statements. The banker expressed

concern over SGL's profitability and debt level. In an effort to alleviate the banker's concerns,

Ms. Lam proposed to sell a major piece of production equipment to an international

finance company, provided SGL is able to lease it back. The equipment purchased two years

ago for $1,000,000 and depreciated at 15% per year on a reducing-balance basis. Ms. Lam

estimates that the machinery is currently worth $1,500,000 at fair value.

She has approached Mr. Alan Fin, President of Shark's Finance Services Ltd, who indicated

that he would be willing to purchase the equipment for $1,800,000 and lease it back to

SGL for $274,252 per year for the next 10 years, payable at the end of each financial year

(i.e. 31 March). The sale satisfies HKFRS 15 "Revenue from Contracts with Customers",

however, the finance director of SGL insisted to account for it as a financing arrangement

but the evidence does not support her claim.

Contract inception date is 1 April 2017 and Tthe first lease rental is paid and charged to the

statement of profit or loss on the contract inception (on 1 April 2017) as rental expense.

The sales proceed was treated as a financial liability at date of sales (also on 1 April 2017).

The incremental borrowing rate is 12% per annum.

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Required Tasks

(a) Explain, where appropriate, the required financial reporting requirement of the six four

issues above in the financial statements for the year ended 31 March 2018 of SGL in

accordance with relevant HKFRS, preparing all relevant calculations and setting out the

required adjustments in the form of journal entries. You are required to make use of the

PV table provided in the course as much as possible (i.e. tables A and B) (20 marks)

(b) Calculate the revised figures for SGL's other comprehensive income, and components of

equity for the year ended 31 March 2018. (8 marks)

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