Pritchard Ltd prepares its financial statements to 31 December each year. At 1 January 2021 Pritchard Ltd had capitalised development expenditure of 15 million and accumulated amortisation of 5.5 million in relation to existing projects. The company's policy for the amortisation of deferred development expenses is straight line over 5 years and research and development costs charged against profit in the year are charged to cost of sales. Pritchard Ltd started on a new project which commenced on 1 January 2021. During the year ended 31 December 2021 the company incurred more research and development costs on this project. The research stage of the new project lasted until 31 March 2021 and costs incurred were 1.2 million. Thereafter the project entered into the development stage and Pritchard Ltd incurred costs of 750,000 per month but the success of the project was at that time still uncertain. On 1 August 2021 the directors became confident that the project would be successful and would return a profit in excess of costs. At 31 December 2021 the project is still in the development stage. Required (a) Briefly explain the accounting treatment of pure and applied research costs, and development expenditure, in accordance with IAS 38 Intangible assets. 8 marks (b) Prepare extracts from Pritchard Ltd's financial statements for the year ended 31 December 2021 showing the effect of the research and development activities of the company. 10 marks Total: 18 marks 4. Lee Burge, the finance director of Hoffman Ltd, has contacted you for some advice in the preparation of the financial statements for the year ended 31 December 2021. The firm manufactures and sells health and wellness products. Lee is unsure how to treat the following two items in the accounts: (1) On 1 November 2021 Hoffman Ltd were featured on television and in a national newspaper report which was very critical of one of their sports nutrition products, claiming that it caused severe breathing problems for individuals with certain allergies and no warnings were given in the labelling of the product. In November some of Hoffman Ltd's customers affected by the product started legal action against the company, claiming total damages of 6 million. Lee's legal advisors have told him that the chance of the customers being successful in their claim is about 20%. On the basis that the legal case will not come to court until next year and the chance of the company losing the case is slim, Lee does not think that that there should be any impact on the accounts this year. (i) On 1 January 2021 Hoffman Ltd received a government grant of 600,000 towards the purchase of some new factory equipment which cost 3 million. Lee decided to capitalise the net cost of the equipment (i.e. 2.4 million) as a non- current asset, and he depreciated the net cost of the equipment on a straight line basis over 5 years, with an assumption of no residual value. A friend of Lee's has told him that he should not have done that and should have recognised the grant as deferred credit. (iii) On 1 September 2021 Hoffman Ltd purchased a patent for 400,000 to help produce a new vegan haircare product. Lee recognised the patent in the statement of financial position as an intangible asset at cost, and at the time established a policy to write off the asset over a period of 4 years. Following the success of the vegan product and its competitive advantage, Lee believes that the patent is now worth much more than they paid for it. Lee commissioned an independent valuation firm to value the patent and the valuation firm has valued the patent on 31 December 2021 at 550,000 Lee would now like to revalue the patent to its current value. 1) On 1 January 2021 Hoffman Ltd received a government grant of 600,000 towards the purchase of some new factory equipment which cost 3 million Lee decided to capitalise the net cost of the equipment (.e. 2.4 million) as a non- current asset, and he depreciated the net cost of the equipment on a straight line basis over 5 years, with an assumption of no residual value. A friend of Lee's has told him that he should not have done that and should have recognised the grant as deferred credit () On 1 September 2021 Hoffman Ltd purchased a patent for 400,000 to help produce a new vegan haircare product. Lee recognised the patent in the statement of financial position as an intangible asset at cost, and at the time established a policy to write off the asset over a period of 4 years. Following the success of the vegan product and its competitive advantage. Lee believes that the patent is now worth much more than they paid for it. Lee commissioned an independent valuation firm to value the patent and the valuation firm has valued the patent on 31 December 2021 at 550,000 Lee would now like to revalue the patent to its current value. Required: Explain, with your reasons, how the above items should have been treated in the financial statements of Hoffman Ltd and what amendments now need to be made to the statements (if any). Total: 18 marks (6 marks each part) END OF PAPER Page 7 O G prt sc Po back 8 9