Case: Kartik Ltd., a construction company, entered into a contract to build a multi-storey building for ₹20,00,00,000. The company started the project on April 1, 2023, and expects to complete it by March 2025. By March 2024, the company had completed 60% of the project. As per the agreement, payments are received progressively based on the percentage of work completed. The company recognizes revenue based on the percentage of completion method. However, an unforeseen delay has led to a revision in the estimated cost, which will increase by ₹2,00,00,000.

Provision: As per AS 9, Revenue Recognition, revenue from construction contracts can be recognized using the percentage of completion method when the outcome of the contract can be reliably estimated. The key provisions under AS 9 related to revenue recognition include:

1. Revenue can be recognized only when it is probable that the economic benefits associated with the transaction will flow to the enterprise.
2. Revenue from the rendering of services should be recognized by reference to the stage of completion of the transaction at the balance sheet date.
3. The percentage of completion method can be used when all the following conditions are satisfied:
   • The total contract revenue can be measured reliably.
   • It is probable that the economic benefits associated with the contract will flow to the entity.
   • The costs to complete the project can be estimated reliably.
4. Revenue recognition should reflect the percentage of work completed.

Analysis: Kartik Ltd. has completed 60% of the project, and based on the provisions of AS 9, the company is eligible to recognize revenue proportional to the work completed. However, due to the unforeseen delay and increased costs, the company needs to revise its total contract revenue and adjust the percentage of completion. The revision in costs must also be factored into the revenue recognition model, and the company should disclose the changes in its financial statements, ensuring transparency regarding the impact of the cost overruns on the contract's profitability.

Conclusion: Kartik Ltd. should recognize 60% of the revised contract value as revenue and disclose the cost increase separately in its financial statements.

Case: Sahil Infrastructure Ltd. borrowed ₹5,00,00,000 to finance the construction of a new office building. The construction started on April 1, 2023, and is expected to be completed by March 2025. The loan is for five years at an interest rate of 10%. The interest expense for the financial year ending March 2024 is ₹50,00,000. The company is debating whether to capitalize the borrowing costs or expense them.

Provision: As per AS 16, Borrowing Costs, borrowing costs that are directly attributable to the acquisition, construction, or production of a qualifying asset must be capitalized as part of the cost of that asset. The key provisions include:

1. Borrowing costs that are directly attributable to the acquisition, construction, or production of a qualifying asset must be capitalized.
2. A qualifying asset is one that necessarily takes a substantial period of time to get ready for its intended use or sale.
3. Other borrowing costs should be expensed in the period in which they are incurred.
4. The capitalization of borrowing costs should cease when substantially all the activities necessary to prepare the asset for its intended use or sale are complete.

Analysis: In this case, Sahil Infrastructure Ltd. is constructing a building, which qualifies as a qualifying asset under AS 16. Therefore, the borrowing costs incurred during the construction period should be capitalized. Since the construction will take more than a year, the interest expense of ₹50,00,000 for the year ending March 2024 should be added to the cost of the office building, rather than being expensed.

Conclusion: Sahil Infrastructure Ltd. should capitalize the borrowing costs related to the construction of the office building, ensuring they are added to the cost of the asset.

Case: Ritu Pharma Ltd. is facing a lawsuit from a competitor, claiming patent infringement. The company's legal counsel believes there is a 70% chance that the court will rule in favor of the competitor, resulting in damages of ₹3,00,00,000. However, the court's decision is not expected until the next financial year. Ritu Pharma is considering whether to recognize a provision or disclose the contingent liability in its financial statements for the year ending March 2024.

Provision: AS 29, Provisions, Contingent Liabilities, and Contingent Assets, outlines the following key provisions for recognizing provisions and disclosing contingent liabilities:

1. A provision should be recognized when:
   • An enterprise has a present obligation (legal or constructive) as a result of a past event.
   • It is probable that an outflow of resources embodying economic benefits will be required to settle the obligation.
   • A reliable estimate can be made of the amount of the obligation.
2. A contingent liability should be disclosed unless the possibility of an outflow of resources embodying economic benefits is remote.
3. Contingent assets are not recognized but may be disclosed where an inflow of economic benefits is probable.

Analysis: Ritu Pharma Ltd. is likely to lose the lawsuit based on the legal counsel's opinion, which makes it probable that an outflow of resources will be required to settle the obligation. Since the probability of losing the case is high (70%), the company should recognize a provision for the damages in its financial statements. The estimated damages of ₹3,00,00,000 should be accounted for as a provision, and appropriate disclosure should be made regarding the nature of the lawsuit.

Conclusion: Ritu Pharma Ltd. should recognize a provision of ₹3,00,00,000 for the lawsuit and disclose the details of the contingent liability in its financial statements.

Case: MNO Ltd. purchased machinery worth ₹2,00,00,000 for its new production line. The company follows the straight-line method for depreciation, with an expected useful life of 10 years and a residual value of ₹20,00,000. During the year, the company also disposed of old machinery that had been fully depreciated. Additionally, ₹25,00,000 was spent on major repairs to extend the useful life of certain older equipment by five more years.

Provision: As per AS 10, Property, Plant, and Equipment, the following provisions are applicable:

1. The cost of an item of property, plant, and equipment should be recognized as an asset if:
   • It is probable that future economic benefits associated with the asset will flow to the enterprise.
   • The cost of the asset can be measured reliably.
2. Subsequent costs, such as major repairs, should be capitalized if they enhance the future economic benefits of the asset.
3. Depreciation should be charged systematically over the useful life of the asset, with the depreciable amount being the cost of the asset less its residual value.
4. Fully depreciated assets should be removed from the balance sheet when they no longer provide future economic benefits.

Analysis: In this case, MNO Ltd. is justified in capitalizing the new machinery and depreciating it over its useful life. The cost of the major repairs should also be capitalized as it extends the useful life of the equipment. The old machinery, which has been fully depreciated, should be removed from the balance sheet. The company must ensure that the revised depreciation method reflects the changes in the asset's future economic benefits.

Conclusion: MNO Ltd. should capitalize the new machinery, capitalize the repair costs, and derecognize the old machinery that has been fully depreciated.

Case: PQR Manufacturing Ltd. uses the FIFO method to value its inventory. Due to price fluctuations in raw materials, the company is considering switching to the weighted average cost method. The company holds ₹50,00,000 worth of inventory, and the weighted average cost method would reduce the inventory value by ₹2,00,000. The company is unsure how to reflect this change in its financial statements for the year ending March 2024.

Provision: AS 2, Valuation of Inventories, outlines the following provisions:

1. Inventories should be measured at the lower of cost and net realizable value.
2. The cost of inventories should be assigned using either the FIFO or weighted average cost formula.
3. Changes in inventory valuation methods should be disclosed, along with their financial impact.
4. When changing the inventory valuation method, the new method must be applied retrospectively to provide comparability.

Analysis: PQR Manufacturing Ltd. is justified in switching to the weighted average cost method as long as it is consistently applied. The reduction in inventory value of ₹2,00,000 should be reflected in the financial statements, and the company must disclose the change in accounting policy along with the financial impact. The change should be applied retrospectively to ensure comparability across financial periods.

Conclusion: PQR Manufacturing Ltd. should switch to the weighted average cost method, disclose the change, and reflect the ₹2,00,000 reduction in inventory value in its financial statements.

Case: XYZ Ltd. entered into a lease agreement for office space on April 1, 2023. The lease term is five years, with annual lease payments of ₹10,00,000. The company classifies this lease as an operating lease. However, the auditors are questioning whether the lease should be classified as a finance lease based on the present value of minimum lease payments.

Provision: AS 19, Leases, provides the following guidelines for classifying leases:

1. A finance lease transfers substantially all the risks and rewards incident to ownership to the lessee.
2. An operating lease does not transfer substantially all the risks and rewards of ownership.
3. The present value of the minimum lease payments should be compared with the fair value of the asset to determine lease classification.
4. Leases that meet certain criteria, such as the transfer of ownership or a bargain purchase option, should be classified as finance leases.

Analysis: XYZ Ltd. has classified the lease as an operating lease. However, if the present value of the minimum lease payments is substantially equal to the fair value of the office space, it may be more appropriate to classify the lease as a finance lease. The auditors are correct in questioning the classification, and the company should reassess the lease terms to determine the correct classification based on the risks and rewards associated with ownership.

Conclusion: XYZ Ltd. should reassess the lease classification and, if necessary, reclassify it as a finance lease based on the present value of the minimum lease payments.

Case: DEF Ltd. invested ₹1,00,00,000 in developing proprietary software for internal use. The software was fully developed and became operational on January 1, 2024. The company expects the software to have a useful life of five years. DEF Ltd. is unsure how to account for the development costs and how to amortize the software over its useful life.

Provision: AS 26, Intangible Assets, outlines the following provisions:

1. Development costs should be capitalized if the asset will generate future economic benefits and the costs can be measured reliably.
2. Intangible assets should be amortized over their useful life.
3. If the useful life of the asset cannot be determined, the asset should be amortized over a period not exceeding 10 years.
4. Impairment testing should be conducted regularly to ensure the asset's carrying amount is recoverable.

Analysis: DEF Ltd. should capitalize the development costs of the software as it is expected to generate future economic benefits. The company should amortize the software over its useful life of five years, ensuring that the amortization expense is recognized in the income statement each year. Additionally, the company should perform regular impairment testing to ensure the carrying amount of the software remains recoverable.

Conclusion: DEF Ltd. should capitalize the software development costs and amortize the software over five years, ensuring compliance with AS 26.