QUESTION 3 (25 marks)

Beta Softwares Ltd (Beta), a company focused on offering a comprehensive range of software products to its clients in diverse industries, has investments in certain financial instruments since 2018.

On 1 January 2018, Beta purchased $18 million 5% bonds at $23,752,800 by cheque with interest payable in arrears on 31 December. The bonds are repayable on 31 December 2020 at a premium of 50% on par and the effective rate of interest is 8%. Betas business model is to collect the contractual cash flows over the life of this bond and such cash flows satisfy the solely payments of principal and interest. On the date of purchase, the bonds were considered to be low risk and as a result the 12-month expected credit losses are expected to be $18,000. The coupon interest was duly received by cheque on 31 December 2018.

On 1 January 2019, the risks associated with the bonds were deemed to have increased significantly. Beta estimated that the probability of default in the next 24 months was 3%. Beta believed that there was a 30% chance that it would have 20% shortfall of all receipts and 70% chance with no shortfall over the entire debt period. The coupon interest was duly received by cheque on 31 December 2019.

On 1 January 2020, the bond has shown a significant increase in credit risk with objective evidence of impairment. Beta anticipated that no further coupon interest would be received during the year ended 31 December 2020 and only 20% of the redemption value would be received. No cash flow of interest was received during 2020 but 20% of the redemption value was received by cheque as promised.

Beta invested 15% ordinary shares in Digital Hub Ltd (DHL). DHL is a start-up in the business of research and development of robotic process automation. After Beta acquiring its shares in April 2020, DHL reached a breakthrough in product development earlier than initially expected. Beta has high hope on receiving good return in terms of dividend and no intention to sell. Betas investment in DHL does not give Beta the control, joint control or significant influence over DHL and Beta has no intention to increase the shareholding in DHL.

Required

With reference to HKFRS 9 Financial Instruments,

Round all figures to the nearest dollar

(a) prepare the journal entries for the purchase of the bonds in the preparation of the financial statements of Beta for the years ended 31 December 2018, 2019 and 2020 respectively. You must use the below present value factors to determine the impairment loss as much as you can and round all figures to the nearest dollar

PVF1, 8% = PVF2, 8% = PVF3, 8% =

0.92593 PVF-OA1, 8% = 0.85734 PVF-OA2, 8% = 0.79383 PVF-OA3, 8% =

0.92593 1.78326 2.57710

(b) explain the possible classification of the equity instruments in DHL to be accounted for in the financial statements of Beta. You are required to define the rule to determine the classification with reference to HKFRS 9 Financial

Instruments.

(6 marks)