Public Sector Finance
[Introduction to GRAP]
Prepared by:
Prof. Ebrahim Arnold, Rashied Small & Jade Jansen
Overview & Objective
Legislation
[PFMA & MFMA]
Financial Statements &
Reports
Objective:
Reliably account for
service potential as
opposed to future
economic bebefits
Objective:
Service delivery rather
than profit motive
Accounting Framework
[GRAP]
Introduction to GRAP
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Compliance with Accounting Frameworks
Type of entities
Framework
National and provincial departments
Accrual basis and/or modified cash basis
Parliament and provincial legislature
GRAP
Constitutional institutions
GRAP
Schedule 2 public entities
IFRS
Schedule 3A & 3C public entities
GRAP/IFRS
High capacity municipalities
GRAP
Medium capacity municipalities
GRAP
Low capacity municipalities
GRAP
Municipal entities
GRAP
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Objectives of Financial Statements
• Fulfilling an entity’s duty to be accountable – utilisation of the resources under it
control to meet its service delivery goals
• Enable users to assess the accountability of the entity – evaluate the performance of
the entity in satisfying its service delivery goals
• Enable users to evaluate the operating results of the entity for the financial period –
evaluate the management of the resources under the control of the entity
• Assessing the level of services that can be provided by the entity and its ability to meet
its obligations as the become due – evaluate the potential to provide services and its
liquidity to meet financial obligations
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Qualitative Characteristics
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Measurement Methods
Historical cost
Current
replacement
cost
Fair value
Measurement
Realisable /
settlement
value
Market value
Present value
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Additional Reports
Details about the
entity’s outputs and
outcomes
Statements of
service performance
and programme
reviews
Information about
compliance with
legislative,
regulatory or other
external imposed
regulations
Other reports by
management about
the entity’s
achievements
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Consideration for Preparation
Faithful representation
Stringent compliance with the
definition & recognition
criteria of elements
Offsetting
Consistency
No offsetting is permissible
except when it reflects the
substance of the transaction
Alternative is only
permissible if it enhance the
reliability & relevance
Materiality & aggregation
Material items shall be
presented separately only
immaterial items can be
aggregated
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Basis of Preparation
Accrual basis:
Cash basis:
When the
transactions occur
When cash
inflows / out
flows occur
Modified cash
basis:
Hybrid of the cash
& accrual basis
Basis of
measurement
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Classification
Current assets
Current Liabilities
• It is expected to be realised, or is held
for sale or consumption, in the entity’s
normal operating cycle
• It is expected to be settled in the entity’s
normal operating cycle
• It is held primarily for the purposes of
being traded
• It is held primarily for the purpose of
being traded
• It is expected to be realised within 12
months after the reporting date
• It is cash or cash equivalent – unless its
use is restricted for a period of 12
months after the reporting date
• It is due to be settled within 12 months
after the reporting date
• The entity does not have an
unconditional right to defer settlement
of the liability for at least 12 months
after the reporting date
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Revenue Recognition – Principal & Agent
Criteria for identification
Principal
Risk &
rewards of
ownership
Primary
responsibility
Credit risk
Agent
Price setting
No
significant
risk
Set price
Revenue Recognition – Principal & Agent
Criteria for identifying the principal in the relationship:
• It is exposed to the significant risk and rewards of ownership.
• It has the primary responsibility for providing the goods or services
• It carries the risk of inventory throughout the transaction
• It carries the customer’s credit risk
• It has latitude in establishing prices, either directly or indirectly
Criteria for identifying the agent in the relationship:
• It does not have exposure to significant risk and rewards associated with the
transaction
• The amount the entity earns is predetermined, fixed fee or percentage of the
transaction amount
Revenue Recognition – Principal & Agent
Example:
Legislation mandates Entity A to undertake a specific task and has approved a
budget of R 150 million. Entity A can select the following options to execute the
mandate:
1. Appoints a contractor and agrees to pay R 120 million. Entity B is appointed as
project manager including paying the contractor. Total budget is transferred to
Entity B – difference is retained as fee for services rendered.
2. Appoints Entity B to execute the task. Contract provide full details of the task.
Agreed cost is the budgeted amount and Entity B carries any additional costs.
3. Assigns the responsibility to Entity B to execute the mandate. Responsibilities
include (i) oversight and compliance function, (ii) discretion over how the task
is executed, (iii) costs is included in its budget, (iv) cost is limited to budget,
and (v) excess costs are borne by Entity B
Revenue Recognition – Principal & Agent
Example:
1. Entity B acts as the agent – no legislative responsibility in terms of mandate,
not responsible to performance of contractor (project manager) and does not
bear credit risk. Entity B recognise the R30 million as revenue when the
service is performed (stage of completion).
2. Entity B is the principal – limited responsibility i.t.o contract, has performance
obligation, carries the financial risk. Entity B recognise the R 150 million as
revenue (stage of completion) and the related expenses as incurred.
3. Entity B acts as the principal – responsibility is has been transferred, and
carries the financial risk. Entity B recognise R 150 million as revenue - nonexchange transaction(stage of completion) and the related expenses as
incurred.
Revenue Recognition – Exchange Transactions
Revenue – Exchange
transactions
Sale of
goods
Rendering of
services
Interest
Royalties
Dividends
Fair value of
consideration
on receivable
Stage of
completion
Effective
interest
method
Substance of
agreement
Right to
receive
payment
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General revenue
recognition
criteria pplicable
to all Revenue
categories
Specific recognition criteria per
revenue category
Rendering of services
It must be probable that
economic benefits or service
potential associated with the
transaction will flow to the
entity; and
The revenue can be measured
reliably
Stage of completion of the
transaction at the reporting
date can be measured reliably;
and
Cost incurred and the cost to
complete the transaction can be
measured reliably.
Revenue categories
Sale of goods
It must be probable that
economic benefits or service
potential associated with the
transaction will flow to the
entity; and
The revenue can be measured
reliably
Significant risk and rewards of
ownership of the goods have
been transferred to the
purchaser;
Cost incurred and the cost to
complete the transaction can
be measured reliably; and
The seller retains neither
continuing managerial
involvement to the degree
usually associated with
ownership nor effective
control
over the goods sold.
Introduction to GRAP
Interest, royalties and dividends
It must be probable that economic
benefits or service potential
associated with the transaction will
flow to the entity; and
The revenue can be measured
reliably
Interest is recognised using the
effective interest rate method as
set out in GRAP 104 on Financial
Instruments.
Royalties are recognised as they
are earned in accordance with the
substance of the relevant
agreement.
Dividends or similar distributions
are recognised when the owner’s
or the entity’s right to receive
payment is established.
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Revenue Recognition – Key Issues
Recognition
Initial recognition
Probable recovery &
reliably measureable
Certainty
Uncertainty
Recognise gross
amount
Revenue is not
recognised
Subsequent recognition
Not recoverable
Recognised as
impairment/expense
Revenue Recognition – Key Issues
1. Non-refundable transactions:
• Initial recognition – deferred revenue
• Subsequent recognition – recognise revenue based on stage of completion
• Cancellation – recognise revenue (based on original classification)
2. Multiple revenue transaction:
• Separately identifiable components – recognition criteria is applied
independently
• Recognition of revenue – sale of goods = transfer of risks & rewards
- services = stage of completion
• Not separately identifiable – inter-dependent transactions
• Recognition – based on substance of transaction
Revenue Measurement – Key Issues
• Gross cash amount = net cash receivable for benefit of the entity (normal terms)
• Discounts & rebates:
• Trade discounts = deducted from revenue amount (gross cash flow)
• Settlement discounts = assessed at transaction date
(i) Certainty of occurrence = set off against revenue on initial recognition
(ii) Uncertainty of occurrence = recognised as an expense on subsequent measurement
• Fair value = present value of future cash flows (deferred settlement terms)
• Exchange transactions:
• Similar goods/services = non-revenue transaction (no commercial value)
• Dissimilar goods/services = revenue transaction (fair value received if reliably measured, if
cannot be measured, then fair value of goods/services given)
Revenue Measurement – Key Issues
• Penalty relating to revenue:
• Set off against revenue = legal right to set off and/or management has the intention to
settle on a net basis
• Recognised as expense = not allowed to set off
• Recognition of service revenue = stage of completion
•
•
•
•
Performance obligation = proportion of obligations completed
Straight-line method = performance obligations cannot be determined
Alternative method = improved method to stage of completion
Limitation (cannot be measured) = limited to costs incurred (if costs are recoverable, if not,
then no revenue is recognised)
Revenue Measurement – Key Issues
• Warranty revenue transactions:
• Recognition of revenue = not dependent of warranty
• Recognised as warranty = liability as an expense (measured at a reliable estimate)
• Right to return:
• Revenue recognition = fulfill the performance obligations (transfer of risk & rewards)
• Uncertainty about possibility of return = recognised when the time period has elapsed
• Contingent revenue:
• Recognition of revenue = probable flow of economic benefits (flow of cash or uncertainty is
removed)
Revenue Recognition – Exchange Transactions
• Exchange transaction:
• Transactions in which the entity receives an equivalent value in exchange for goods or
services
• Measurement:
• Measured at fair value of the consideration received or receivable, including trade
discounts and volume rebates
• Recognition – Rendering of services
• Recognised by reference to the stage of completion method when the outcome of the
transaction can be determined reliably
• When the outcome of the transaction cannot be estimated reliably, revenue is recognised
only to the extent that expenditure are recoverable
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Revenue Recognition – Rendering of Services
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Revenue Recognition – Exchange Transactions
• Recognition – Sale of Goods:
• Recognised when:
(a) Significant risks and rewards have been transferred to the purchaser
(b) The entity retains neither continuing managerial involvement with ownership nor
effective control over the goods
(c) The amount of revenue and costs relating to the transaction can be measured reliably
(d) It is probable that future economic benefits / service potential will flow to the entity
• Recognition other revenue:
• Interest is recognised using the effective interest method
• Royalties are recognised on an accrual basis in accordance with the substance of the
agreement
• Dividends are recognised when the entity’s rights to receive payment is established
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Revenue Recognition – Sale of Goods
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Revenue Recognition – Probability Test
• Application:
•
•
•
•
Applicable to initial recognition
Recognition of exchange transactions (good or services)
Credit revenue transactions
Uncertainty that revenue will be eventually be collected
• Circumstances:
• Provision of goods or services in accordance with their legislative mandate
• At date of invoicing there is uncertainty that revenue will be collected
• Judgement whether the revenue should be recognised:
(a) Probability of collectability should not be the deciding factor – entity has the obligation
to collect the revenue
(b) Decision not to enforce the right to collect the revenue is a subsequent decision
(c) Impairment (non-collectability) should be recognised as an expense
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Revenue Recognition – Construction Contracts
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Revenue: Construction Contracts – Key Issues
Defining a construction
contract
Primary features
Long-term
contract (> 1
reporting period)
Recovery of
costs through
revenue
Special inclusions
Legal contract
& obligations
Directly related
services (project
management)
Subsequent
events
Revenue Recognition – Construction Contracts
• Construction contract:
• A binding arrangement arrangements for the construction of an asset
• Contracts for the rendering of services that are directly related to the asset
• Contracts for the destruction or restoration of the asset and/or environment
• Application:
•
•
•
•
Depends on the substance of the binding arrangement
Separate construction contract
Separately identifiable segments of a single contract
Group of contracts as a single unit
• Measurement:
• Amount agreed in the initial contract
• Include variations in the contract work, claims and incentive payments to the extent that it is
probable that they will result in revenue
• Measured reliably at the fair value of the consideration
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Revenue Recognition – Construction Contracts
• Construction costs:
• All costs directly related to the specific contract
• Costs that can be attributed to the general contract activities that can be reasonable
allocated to the contract
• Other costs that are specifically chargeable to the customer under the terms of the contract
• Recognition:
• Recognised by reference to the stage of completion – outcome of construction contract can
be estimated reliably
• Estimation of outcomes:
(a) Total contract revenue can be measured reliably
(b) Probable that the economic benefits / service potential associated with the contract will
flow to the entity
(c) Contract cost and the stage of completion can be measured reliably
(d) Contract costs attributable to the contract can be clearly identified and measured
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Revenue Recognition – Construction Contracts
Fixed price contract
Cost plus or cost based contract
•
Total contract revenue, if any, can be
measured reliably;
•
•
It’s probable that economic benefits or
service potential associated with the
contract will flow to the entity;
Contract cost to complete the contract
can be measured reliably at reporting
date;
Stage of completion can be measured
reliably at reporting date; and
Contract cost attributable to the contract
can be clearly identified and measured
reliably.
•
•
•
•
It’s probable that economic benefits or
service potential associated with the
contract will flow to the entity; and
Contract cost attributable to the
contract, whether or not specifically
reimbursable, can be clearly identified
and measured reliably.
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Revenue: Construction Contracts – Key Issues
• Fixed price contract:
• Recognition of revenue = stage of completion (cost proportionate basis)
• Cost escalation clause = adjustment to cost & price as additional costs are incurred
• Contract price of R 90 million with an estimated total cost of R 60 million.
Incurred costs of R 25 million of which R 0,3 million related to escalation in
costs.
Revenue recognised = [(25/(60 + 0,3) x (90 + 0,3)] = R 37,438 million
• Indirectly funded contracts = recipient of assets does not pay for the contract
• Non-commercial transactions = indication of incurring losses
Revenue Recognition – Construction Contracts
• Recognition:
• Outcome cannot be estimated reliably:
(a) No surplus is recognised
(b) Revenue is recognised to the extent of the contract costs incurred are expected to be
recovered
(c) Contract costs are expensed as incurred
• Probable that the contract costs will exceed the contract revenue – expected loss is
recognised immediately
• Stage of completion method is applied on a cumulative basis in each reporting period –
represents a change in accounting estimate
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Revenue Recognition – Construction Contracts
• Arrangements:
• Arrangement with the buyers before the construction is completed
• Funding to support the construction will be provided by an appropriation
• Exclude aids or grant funds
• Recognition:
• Application of GRAP 9 (Revenue from exchange transactions) or 11 (Construction Contracts)
is based on the judgement of the facts of the circumstances
• When the buyer is able to specify the major structural elements in the design prior to or
during the to construction – GRAP 11
(a) If the outcome can be estimated reliably then revenue should be recognised by the stage
of completion method
• When the buyer has limited influence in the design of the asset – GRAP 9
(a) Determine if the entity provides goods (entity provide the services plus the construction
material) or rendering services (entity is not required to supply the material)
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Revenue Recognition – Barter Transactions
• Barter transactions:
• Applicable to the provision of advertising services in exchange for receiving other services
• Exchange of services must be dissimilar
• Measurement:
• Fair value of the advertising services must be measured reliably
• Fair value of the services provided can be measured reliably:
(a) Measurement is based in the fair value in a non-barter transaction
(b) Advertising similar to the service provided in the barter transaction
(c) These transactions occur frequently
(d) Represent a predominant number of transactions
(e) Involve cash and/or another form of consideration that has a reliable fair value
(f) Do not involve the same counterparty as in the barter transaction
• Cannot be measured reliably at the fair value of the services received
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Revenue Recognition – Non-exchange Transaction
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Revenue: Non-exchange Transactions – Key Issues
• Measurement of revenue = fair value of consideration
• Non-exchange transactions = revenue is the “donation value” received
Entity A paid R 500,000 for a service with a fair value of R 900,000.
R 400,000 benefit gained must be recognised as revenue
• Distinction between exchange & non-exchange transactions = assess the
substance of the transaction
Entity A is granted a bulk discount (price paid is less than the fair value).
Substance of the transaction = exchange transactions (price is negotiable)
Revenue: Non-exchange Transactions – Key Issues
• Conditions on transfer of asset:
• Restriction on utilisation of asset = not affect revenue recognition (default is a subsequent
measurement concern)
• Conditions on transfer of asset = affects recognition of revenue (recognition of the
condition as a present obligation or liability)
• Recognition of conditional grants
Entity A received conditional grant of R 35 million (if not used for the
specified purpose the funds must be returned. R 22 million was used
during the period.
Initial recognition: recognise no revenue but a liability for R 35 million
Subsequent measurement: recognise revenue of R 21 million (convert the
liability to revenue)
Revenue: Non-exchange Transactions – Key Issues
• Debt forgiveness = recognised as revenue (benefit received)
• Non-exchange transactions = revenue is the “donation value” received
Entity A paid R 500,000 for a service with a fair value of R 900,000.
R 400,000 benefit gained must be recognised as revenue
• Distinction between exchange & non-exchange transactions = assess the
substance of the transaction
Entity A is granted a bulk discount (price paid is less than the fair value).
Substance of the transaction = exchange transactions (price is negotiable)
Revenue Recognition – License Fees & Taxes
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Revenue Recognition – Non-exchange Transaction
• Non-exchange transaction:
• Revenue in the form of taxes, transfers, grants and fines
• Transfer of assets that will be used by the recipient in a particular way:
(a) Restrictions on transferred assets
(b) Conditions of transferred assets
(c) Classification is based on the substance of the transactions
• Measurement:
• Initially measured at its fair value at the date of acquisition
• Subsequent measurement is based on the applicable accounting standard
• If the are conditions attached to the asset transferred – a liability measured at the best
estimate of the amount to settle the present obligation at the reporting date
• Corresponding entry is revenue – revenue must be reduced by the liability recognised
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Revenue Recognition – Non-exchange Transaction
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Revenue Recognition – Non-exchange Transaction
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Revenue Recognition – Non-exchange Transaction
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Revenue Recognition – Non-exchange Transaction
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Property, Plant & Equipment
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Property, Plant & Equipment – Land & Buildings
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Property, Plant & Equipment
• Initial measurement
• Measured at aggregate costs on initial recognition
• Deferred settlement agreements (beyond normal terms)
(a) Separate total value between cost (equivalent cash price = present value at the effective
interest rate) and interest element (recognised as an expense over the period)
• If asset is acquired at no cost of at a nominal value
(a) Cost is equal to the fair value at the date of recognition
• Subsequent measurement:
• Cost model
(a) Carrying amount = cost less accumulated depreciation and accumulated impairment loss
• Revaluation model
(a) Applicable to all items of the class of asset
(b) Revaluation must be performed regularly (significant change in the value of the asset)
(c) Cost is represented by the fair value at the date of revaluation
(d) Carrying amount = revalued amount less accumulated depreciation and accumulated
impairment loss
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Property, Plant & Equipment – Initial Recognition
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Property, Plant & Equipment – Fair Value
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Property, Plant & Equipment
• Subsequent measurement:
• Revaluation model
(e) Revaluation surplus is recognised in the statement of changes in net assets
(f) Decrease in the revalued amount:
- first written off against the surplus
- excess is written off against the surplus / deficit (statement of financial performance)
• Impairment:
• Compensation received from 3rd parties for impairment is recognised as a gain when it
becomes receivable
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Property, Plant & Equipment – Fully Depreciated
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Property, Plant & Equipment – Fully Depreciated
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Property, Plant & Equipment – Sewerage
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Property, Plant & Equipment – Roads
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Property, Plant & Equipment – Water
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Investment Property
Investment Property
Identification
Recognition
Measurement
Initial
Measurement
Cost
Fair Value
Subsequent
Measurement
Depreciation
& impairment
t
Derecognition
Disclosure
Cost
Model
Fair Value
Model
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Heritage Assets
Introduction to GRAP
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Biological Assets
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