Rocky Retail Ltd had experienced a difficult year with declining sales as a result of increased competition from online retailers. The accountant for Rocky Retail Ltd presented a set of draft financial statements to management to review before the final set of financial statements were published. Management was very worried because the draft financial statements showed a profit of only $230 000 for 2016, compared with $300 000 in 2015. They were concerned that a reduction in profit would result in a fall in the company's share price.

The statement of profit or loss and other comprehensive income included an expense of $80 000 for stamp duty on its long-term rental properties. One of the managers announced a 'clever plan' to increase profit, suggesting the company 'classify the stamp duty as an asset and expense it over the term of the lease'.

The accountant did some calculations and advised that if Rocky Retail Ltd accounted for the stamp duty costs of $80 000 as 'Prepayments', and then progressively allocated it to expenses over the term of each lease, only $5000 would be recognised as an expense in 2016. Everyone seemed happy with that plan and the accountant got to work writing the note disclosure about the accounting policy. She explained, 'We must disclose this to comply with accounting standards, but don't worry...I think the shareholders and investors will be too busy looking at the profit to read what is says in the notes'.

Required

(a)Ignoring taxes, calculate Rocky Retail Ltd's profit for 2016 after the decision to account for stamp duty as an asset.

(b)Explain which of the theories discussed in this chapter best describes the managers' expectations about how shareholders and investors will react to the reported profit for 2016.

(c)Define the semi-strong form of market efficiency and discuss its implications for how the investors, and therefore, the share price, might respond to the release of the financial statements. Assume that the market is efficient in the semi-strong form.