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Creative Hardwares Pty Ltd (CHPL) is a national hardware retailer that is listed on the Australian Securities
Exchange (ASX). CHPL introduced a new executive compensation plan (ECP) on 1 July 2019. The plan allows
for cash bonuses to be paid to executive directors under the following terms and conditions:
➢ A bonus will be paid if the company’s earnings per share (EPS) exceed ‘normal’ EPS.
➢ ‘Normal’ EPS has been agreed to be $0.65 per share.
➢ The bonus is calculated to be 12.5% of any profit generated in excess of that required to result in an EPS of
The draft financial statements for the year ended 30 June 2020 show an EPS of $0.922 per share and a bonus
payable under the ECP of $108,800.
Additional information
On 1 December 2019, CHPL entered into an agreement with Apex Investment Pty Ltd (Apex Investment) to
lease a property to Apex Investment. The terms of the agreement are as follows:
➢ The period of the lease is 20 years.
➢ The consideration payable to CHPL at the inception of the lease is $2.5 million.
➢ The interest rate implicit in the lease is 7.5%.
➢ CHPL signed an unconditional agreement to repurchase the property after six years for a fixed amount of
$3.43 million.
At the request of the executive directors of CHPL, the property has been derecognised from the statement of
financial position and a profit of $1.5 million has been recognised in the statement of comprehensive income.
The $1.5 million profit was calculated by comparing the $1 million carrying value of the property prior to disposal
with the consideration received.
Prior to derecognition, the property was being depreciated on a straight line basis at 5% per annum, based on
an initial cost of $1.4 million.
You are employed as a senior auditor by RCD Chartered Accountants (RCD).
(a) Determine whether or not the correct accounting treatment has been adopted by CHPL in relation to
the transaction between the company and Apex Investment. If you determine that the accounting
treatment adopted is not correct, advise on the correct accounting treatment. (5 marks)
(b) Explain why the directors may have been motivated to adopt the accounting treatment that has been
adopted. (3 marks)
(c) Determine whether the directors have acted unethically and what (if any) impact this would have on
you, as auditor of CHPL. (4 marks)


a) Determine whether or not correct Accounting treatment has been adopted by CHPL in relation to the transaction between the company and Apex agreement. If you determine that the accounting treatment adopted is not correct, advice on the correct accounting treatment.
The accounting treatment which was followed by the CHPL is not correct as the property was derecognized in the financial statements. But the property should be written in the statement as it is still the property of CHPL.
The main treatment as per the accounting is to recognized the property which is not fully transferred to the other person and must be shown in the books of account (shown in balance sheet as fixed asset)
According to accounting principles the company is required to show all the properties and assets which it owns either on lease or any other way
The directors should mention the property as well the amount received in the financial statements of the company
The accounting treatment of LEASE is clearly indicates that all the properties the ownership of which property is not transferred to the other person still it remain the property of the lesser and it will be owned by the other only when the lease period is completed and the property is transferred to the relevant person then he will show the property in their books.
At the end we can say this property will be transferred to the lessee when he will pay full amount to the lesser at the end of the lease period or in between of the lease period
If he pay at the end, the property will transferred at the end of lease period otherwise it will be transferred at the time paying final payment
The value of the property will be shown in the books of accounts by the person who will be the owner at that time.

b) Explain why the directors may have been motivated to adopt the accounting treatment that has been adopted.


The directors may have been motivated to adopt the accounting treatment because if the company comes into the agreement with the APEX Investment so that the company can earn extra profit and the bonus will be distributed to directors of the extra profit earned.
The accounting treatment is followed by the company is not correct but this is accepted by the company because it helps to increase the income of the company
The initial profit was less that the profit earned after applying this accounting treatment which was not correct
The directors may adopt this accounting agreement because they are in the company to earn income if they get an extra income by the this accounting treatment
The company offers 12.5% share of the profit if they earns excess profit than normal profit
They will get same income if they stands at the normal profit which is 0.65 per share
The directors earns $ 108800 as bonus which is calculated @ 12.5 of the excess profit.
So the excess profit will be
108800*100/12.5=$ 870400

c) Determine whether the directors have acted unethically and what (if any) impact this would have on you, as auditor of CHPL?

Yes the directors have acted unethically.
This gave a bad impact on me as a auditor as just for their personal earnings and personal goals they forget the companies objectives.
The directors should focus on company’s goodwill as compared to individual interests.
The directors should work as per the accounting principles if they work without following the accounting principles then their act will be counted as unethically so that the earning earned by the directors are not reasonable as per the business point of views.
As per my opinion, if I am working as an auditor of the company to audit their accounts and I found this type of accounting error then it will put a bad impact on the professionalism
The result of unethically made accounting books are treated as false books and audit is always shown a qualified report for that type of companies’ mistakes.
The company should follow the accounting treatment which is as per the accounting principles and not as to increase only his earnings and the earning of the directors.

Sample Answer

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