acc201 unisa module

# 2008 University of South Africa

Revised edition 2008

All rights reserved

Printed and published by theUniversity of South AfricaMuckleneuk, Pretoria

ACN202R/1/2009

98316516

3B2

ACN-Style

CONTENTS

INTRODUCTION AND OVERVIEW OF THE MODULE (vii)

TOPIC A INTRODUCTION TO GROUP ANNUAL FINANCIALSTATEMENTS 1

TOPIC B STATEMENTS OF CASH FLOWS (IAS 7/AC 118) 205

TOPIC C EARNINGS PER SHARE (IAS 33/AC 104) 233

TOPIC D TIME VALUE OF MONEY 275

TOPIC E LEASES (ONLY LESSEES) (IAS 17/AC 105) 283

TOPIC F VALUATION OF FINANCIAL INSTRUMENTS 309

(iii)

INTRODUCTION AND OVERVIEWOF THE MODULE

A. THE PURPOSE OF THIS MODULEWelcome to the ACN202R module of your studies with the School of Accounting Sciences in

the Department of Financial Accounting at UNISA.

The purpose of this module is to provide learners with knowledge and skills to enable them to

draft annual financial statements for simple groups of companies in accordance with the

requirements of the Companies Act, 1973 and Statements of Generally Accepted Accounting

Practice. This module will also provide learners with the knowledge and skills to enable them to

apply certain statements of Generally Accepted Accounting Practice and to identify different

financial instruments and apply different valuation methods and principles to the time value of

money.

B. THE TEACHING STRATEGY

The focus of our teaching role is on facilitating your learning experiences towards achieving

specific assessment criteria. Furthermore, for each of the topics that comprise this module, the

learning experiences are designed with the aim of enabling you to master the learning content

at a predetermined competence level.

. Learning outcomes, assessment criteria and levels of mastery

Each topic dealt with in this module contains a statement of the learning outcomes that we wish

to accomplish for the particular topic. In broad terms these tell you about the knowledge and

skills we expect you to have mastered by the time you complete your study of each topic.

These outcomes are translated into assessment criteria for the study units identified under

each topic. The assessment criteria indicate a required end result, that is what you should be

able to do once you have completed the study unit. The formulated assessment criteria are

based on various levels of mastery which you are required to achieve when mastering the

study material. The required levels of mastery for this module vary from knowledge and

comprehension to the application of knowledge under given circumstances.

The level of mastery that you are required to attain in the various study topics is indicated

alongside each specified assessment criterion. The following levels of mastery as defined in

the Education Requirements of the South African Institute of Chartered Accountants

(2000:16±17) are distinguished for the purposes of this module:

Level 1: Knowledge and comprehension

This calls for a knowledge and understanding of facts, methods, processes and structures and

(iv)

an ability to list and explain them. It involves memorising as well as an awareness, immediate

discovery, recall or recognition of relevant information in various forms. A limited degree of

interpretation is required.

Level 2: Application

This calls for a knowledge and understanding of the background and of the facts, and the ability

to apply rules, principles, techniques and methods to a problem in order to find a solution based

on the information which is provided. There is normally only one ideal solution to the problem

and the solution therefore logically determined by the information provided. This process is

also sometimes called the convergent application of knowledge.

Level 3: Integration

This calls for a full factual knowledge of the topic, of the background and of related topics, and

an ability to carry out integration functions, such as analysis, interpretation, synthesis and

evaluation. It includes the application of multi-disciplinary knowledge and problem solving, in

cases where there are various acceptable solutions. In this sense it constitutes creative

thinking, comprising fluency, flexibility, originality, critical awareness and independent thought.

The process is sometimes also called the divergent application of knowledge.

When you analyse the various learning outcomes expected of you, you should continually be

aware of the level of mastery (level 1, 2 or 3 as defined above) linked to the learning outcome in

question. To help you to identify the level, we have indicated the highest level of mastery which

can be expected of you for a particular learning outcome opposite that learning outcome. Only

the highest level of mastery is indicated, for example level 2 (application), but this implies that

you must also be able to handle the learning content in question at level 1 (knowledge and

comprehension).

The learning objectives of this module are ultimately reflected in the examination paper you

have to pass in order to complete the module successfully. For examination purposes

questions that test the first two levels of mastery will be included. Here too, you need to bear in

mind that learning outcomes merely indicate the highest level of mastery, and that questions at

a lower level of mastery on the particular topic can also be asked.

C. MEANING OF WORDS

In this module we require you to understand the meaning of certain words to enable you to

interpret assessment criteria, and to interpret assignment and examination questions.

To indicate the length, scope and format of answers to study activities and questions, we have

deliberately built limits or restrictions into the questions by using action verbs. These action

verbs give you an indication of how to tackle the given problem and what style of writing is

called for.

An analysis of the action verbs contained in a question will enable you to:

. plan the answer systematically and organise your thoughts systematically, and

. ensure that you comply with the lecturer's requirements.

You will also save yourself time and trouble by eliminating irrelevant material that falls outside

the scope of the answer.

(v)

For the purpose of this module the following meanings will be attached to the following action

words:

Allocate Allot, assign to a place

Amortise Gradually write off initial cost

Apply Use in a practical manner; use as relevant or suitable

Calculate Figure out; determine by a mathematical procedure

Clarify/demonstrate This means expound; make the meaning clear; clarify; provide proof of;

argue the truth of

Complete Finish; accomplish; supply whatever is missing

Consolidate Combine companies into one whole

Define Describe accurately; establish the exact meaning; explain the inherent

meaning; make clear; give an account of the overall character

Describe Give an account of the respective particulars or essential characteristics,

describe clearly; give an accurate account

Determine Establish; reach a conclusion or decision

Discuss Examine; explain; examine by means of argument

Draft Prepare a provisional outline

Draw up Compose document

Explain Make clear or comprehensible; elucidate; explain the meaning in detail

Illustrate Explain; shed light on; use an example to elucidate something

Interpret Explain the meaning of; explicate; construe; show the nature or essence

Label Attaching to object and indicating its nature

List Note/specify matters or objects that are related to one another

Name/mention/state Specify by name; give names, characteristics, items, elements or facts

Organise Divide into classes or groups according to certain characteristics; place

in particular order

Prepare Make ready in advance; finish; get something ready on the basis of

previous study

Record To put into writing; set down for reference and preservation

Show To make or become visible, noticeable; to exhibit or present: to indicate

D. PRESCRIBED TEXTBOOKSteyn, BL, Warren, BO & Jonker, WD. Latest edition. Fundamental aspects of financial

management. Pretoria: Renall Publishing.

This book is prescribed as a supplement to topics D and F of this study guide, in which it is

referred to as Fundamental aspects.

E. MASTERING THE STUDY MATERIAL

This is a comprehensive module which requires careful and dedicated study. The student must

become totally proficient in the field of accounting which cannot be achieved in a short period of

time. A student must be diligent and thorough to be able to master this module.

This study guide has been devised to guide you through your studies for this module. You

should bear in mind that your prescribed textbook is also a primary source of information that

(vi)

you must study. The text book is supplemented in the study guide where necessary with further

information, explanations, examples and questions, which are aimed at making the study

content of the module more easily understandable. The study guide also indicates the level of

mastery at which you are required to master the various study units included in the study

content.

You will be required to complete a series of assignments for this module. Details pertaining to

the completion and submission of assignments are contained in Tutorial letter 101.

(vii)

TOPIC A

INTRODUCTION TO GROUPINTRODUCTION TO GROUPANNUAL FINANCIAL STATEMENTSANNUAL FINANCIAL STATEMENTS

Learning outcome

Learners can draft consolidated annual financial statements, in accordance withstatutory requirements and Statements of Generally Accepted AccountingPractice, for simple groups once all relevant intercompany transactions have beentaken into account.

CONTENTS

Study unit Page

1 Provisions of the Companies Act, 1973 in respect of companies in

group context 3

2 Consolidation of wholly-owned subsidiary at date of acquisition 10

3 Consolidation of partly-owned subsidiary at date of acquisition 23

4 Consolidation of wholly-owned subsidiary after date of acquisition 37

5 Consolidation of partly-owned subsidiary after date of acquisition 59

6 Acquisition of an interest in a subsidiary during the year 73

7 Elimination of intercompany transactions 89

8 Treatment of dividends during consolidation 130

9 Treatment of preference shares during consolidation 159

2ACN202R/1

STUDY UNIT

1Provisions of the Companies Act, 1973 inrespect of companies in group context

Learning outcome

Learners can identify and define business combinations and a subsidiary.

OVERVIEW

This study unit is divided into the following:

Page

Key concepts 3

Assessment criteria 4

1.1 Introduction 4

1.2 Parent and subsidiaries 4

1.3 Companies Act and accounting for groups 6

1.4 General provisions 8

1.5 Exercises 8

Solutions 8

Self-assessment 9

KEY CONCEPTS. Business combination

. Acquires

. Entity

. Parent

. Subsidiary

. Sub-subsidiary

. Share capital

. Equity share capital

. Simple group

. Complex group

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ASSESSMENT CRITERIA

After having studied this study unit you should be able to

. define business combinations

. define a subsidiary

. explain the difference between simple and complex groups

. describe the provisions of the Companies Act of 1973 regarding accounting and

disclosure as they relate to group financial statements

1.1 INTRODUCTION

The first study unit, which deals with group financial statements, is chiefly background

knowledge. You may not understand this at first but as you progress through the course you will

come to understand the purpose this background knowledge serves. We refer back to certain

concepts and principles in subsequent study units. These concepts and principles will then

become clearer to you.

1.2 PARENT AND SUBSIDIARIES

Over the years the tendency in the business world has been to form bigger and bigger

enterprises. One-man businesses combined to form partnerships which in turn amalgamated

to form yet bigger partnerships. The problem with these bigger partnerships was, however, that

all the partners were not equally active in the partnership. Some partners merely contributed

capital whereas others were more actively involved in managing the enterprise. The result was

the formation of companies to limit the liability of the inactive partners.

Companies also began to combine with other companies to form larger companies and groups

of companies.

A business combination is regulated by IFRs 3 Business combinations that was issued in

March 2004. A business combination is defined as the bringing together of seperate entities

into one reporting entity.

Example

The following is an example of such a group:

1. H Ltd

75% of the voting rights and

eg 75% of the share capital

S Ltd

4ACN202R/1

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! !

!

(a) H Ltd is the parent. (H Ltd is a member of S Ltd and in this example it holds more than

half of the issued equity share capital and also more than half the voting rights of S

Ltd.)

(b) S Ltd is the subsidiary.

Where a parent is linked with a subsidiary to form a larger economic unit, it is customary to refer

to the entity as a group.

The above is an example of a simple group. Although you will only have to deal with accounting

and disclosure for simple groups in this course, we should like to introduce you to the concept

of complex groups so that this will not be an entirely new or foreign concept to you in future.

Example

The following are two examples of complex groups:

1. H Ltd

80% of the voting rights and 60% of the voting rights and

eg 80% of the share capital eg 60% of the share capital

S1 Ltd S2 Ltd

(a) H Ltd is the parent.

(b) S1 Ltd and S2 Ltd are subsidiaries.

(c) H Ltd, S1 Ltd and S2 Ltd collectively form a complex group (horizontal).

2. H Ltd



S1 Ltd



S2 Ltd

(a) H Ltd is the parent.

(b) S1 Ltd is the subsidiary and S2 Ltd is the sub-subsidiary.

(c) H Ltd, S1 Ltd en S2 Ltd collectively form a complex group (vertical).

It should be clear to you from the above that simple groups have only one subsidiary where

complex groups have more than one subsidiary.

5ACN202R/1

Further to the above explanation we shall now discuss the following definitions:

Business combination

A business combination is defined as a transaction or other event in which an acquirer obtains

control of one or more businesses.

Parent

A parent is a member of a subsidiary and holds a majority of the voting rights in the subsidiary.

The parent has the right to control the composition of the board of directors of the subsidiary.

Subsidiary

A subsidiary is defined as an entity which is controlled by another entity (the parent).

Sub-subsidiary

A sub-subsidiary may be defined as a subsidiary of another subsidiary.

The definition of a parent specifies that the company must possess a majority of the voting

rights or voting equity shares. As you already know, the share capital of a company can be

divided into par value shares (PV shares) and no par value shares (NPV shares). The issued

share capital of a company may consist of both ordinary and preference shares.

The Companies Act, 1973 defines equity shares as issued shares, excluding any part thereof

which, either as regards dividends or as regards capital, carries any right to participate beyond

a specified amount in a distribution. Preference shares are therefore excluded from the above

definition.

It is therefore clear from the definition that a parent can only obtain control over a subsidiary if

the parent holds a majority of the equity shares (ordinary shares) of a subsidiary.

Control can therefore be obtained through the possession of just over 50% of the equity shares

of a company. Therefore, if a parent holds 51% of the preference shares of another company,

there will be no parent-subsidiary relation.

In our examples the percentages of shareholding and voting rights usually correspond, since

we say that each share carries one vote. It is, however, important to know that this is not always

the case in practice, and that the percentage voting right would determine the percentage

equity.

In study unit 3 we shall explain the calculation of the percentage interest in more detail.

1.3 COMPANIES ACT AND ACCOUNTING FOR GROUPS

The essence of consolidations is that the parent is able to control the policy and management

of the subsidiary. The group should therefore be seen as an economic unit.

Although the parent shows investments in its subsidiaries on its statement of financial position,

it is highly probable that the value of the investments may have increased considerably since

the investments were made. The statements may therefore not be an accurate reflection of the

activities of the group.

6ACN202R/1

For this reason it is in the interests of the shareholders of the parent that a single set of annual

financial statements should be drawn up for the group so that the shareholders can gain an

idea of the earnings per share and the assets and liabilities of the group. This set of statements

is known as consolidated statements, group annual financial statements, group statements,

etcetera. Briefly, these are a combination of all the statements of the companies in the group or,

to put it differently, they show that the investment in the parent's statements is replaced by the

assets and liabilities of the subsidiary which represents these investments. Certain

adjustments are, however, necessary in order to represent these combined values realistically

as a single economic unit. These adjustments will be explained to you in the following study

unit.

The Companies Act of 1973 as well as IAS 27 (AC132) consolidated and seperate financial

statements determines that a company which is not itself a wholly owned subsidiary of another

company must submit group annual financial statements to the annual general meeting at the

end of its financial year.

Group annual financial statements may consist of

. consolidated financial statements, that is, a consolidated statement of comprehensive

income, a consolidated statement of changes in equity and a consolidated statement of

financial position

. alternative forms of group financial statements:

Ð more than one set of consolidated annual financial statements or

Ð separate annual financial statements dealing with each of the subsidiaries or

Ð statements which are attached to the parent's own annual financial statements and

which enlarge on the information on the subsidiaries contained in the holding company's

statements or

Ð a combination of all the above

Alternative forms of group financial statements will be dealt with in the third-year course.

When should group statements be presented in the form of consolidated annualstatements?

The Companies Act, 1973 provides that consolidated annual financial statements should be

compiled, unless the directors of the parent are of the opinion that the required information

could be more effectively and meaningfully shown in the alternative forms.

When are group statements not required?

. Group annual financial statements need not deal with a subsidiary if the directors of the

parent are of the opinion that

1. this would be impractical or of no real use to members (as in the case of insignificant

sums) or

the cost or delay would be out of proportion to the usefulness to members

2. the results would be misleading or would be prejudicial to the affairs of the parent or

other subsidiaries

3. the operations of the parent and the subsidiaries are so different that they could not

reasonably be treated as a single enterprise

Permission from the Registrar of Companies is required in cases 2 and 3.

. Group annual financial statements are not required when the parent itself is a wholly-owned

subsidiary of another company.

7ACN202R/1

1.4 GENERAL PROVISIONS

. Group statements should be a fair reflection of the state of affairs of the parent and its

subsidiaries as at the accounting date.

. Profits/losses that have arisen as a result of transactions within the group, where such

profits/losses have not been realised in respect of persons outside the group, should be

eliminated.

. The provisions of the Companies Act, 1973 must be complied with.

. All intercompany balances must be eliminated by determining the total assets and liabilities

of the group.

. Dividends declared by a subsidiary out of pre-acquisition profits do not form part of the

parent's profits that are available for distribution.

. Elimination of the carrying amount of the parent's investment in the subsidiary.

1.5 EXERCISES

We end the lecture with a few revision questions. For your own sake, try to answer them by

referring to the lecture before you look at the proposed solutions.

Question 1

Explain the following concepts:

(a) Parent

(b) Subsidiary

(c) Wholly-owned subsidiary

(d) Equity share capital

Question 2

Distinguish between simple and complex groups and give a schematic representation of each.

Question 3

When are consolidated annual financial statements not drafted?

Solut ions

Refer to the following sections of this study unit for answers to the questions:

Quest ion 1

(a) Sect 1.2

(b) Sect 1.2

(c) Sect 1.2

(d) Sect 1.2

8ACN202R/1

Quest ion 2

Sect 1.2

Quest ion 3

Sect 1.3

SELF -ASSESSMENT

After studying this study unit, are you able to:

. define a business combination?

. define a subsidiary?

. explain the difference between simple and complex groups?

. describe the provisions of the Companies Act of 1973 regarding accounting and

disclosure as they relate to group financial statements?

9ACN202R/1

STUDY UNIT

2Consolidation of wholly-ownedsubsidiary at date of acquisition

Learning outcome

Learners can consolidate the financial statement of a wholly-owned subsidiary atdate of acquisition.

OVERVIEW


Page

Key concepts 10


2.1 Introduction 11

2.2 Basic consolidation techniques 11

2.3 Consolidation of the statement of financial position of a wholly-owned

subsidiary at date of acquisition 15

2.4 Exercises 19

Solutions 20

Self-assessment 22

KEY CONCEPTS

. Net asset value

. Premium

. Discount

. Intercompany items

. Common items

. Goodwill

. ``Negative goodwill''

10ACN202R/1

A Ltd's

financial

statements

B Ltd's

financial

statements

Consolida-

ted finan-

cial" "

ASSESSMENT CRITERIA

After having studied this study unit, you should be able to

. draft the consolidated annual financial statements of a parent and its wholly-owned

subsidiary at date of acquisition

. calculate intercompany items and common items

. calculate positive and ``negative goodwill'' at acquisition of a subsidiary

. do the consolidation journal entries

2.1 INTRODUCTION

As we explained in study unit 1, in principle the consolidated statements of a group are nothing

more than the combined statements of all the companies in the group. Certain adjustments

have to be made, however, before we can speak of consolidated statements.

Consolidations can be schematically represented as follows:

Adjustments to

A Ltd drafts its financial statements from its financial records, as does B Ltd. Once the

individual statements have been completed the information from these statements is used to

make the necessary consolidation adjustments; only then can consolidated statements be

compiled. Note that the original financial statements of A Ltd and B Ltd are never amended

during the consolidation process. This process repeats itself year after year and the

adjustments have to be made afresh every year. This statement will become clearer to you as

you study the following study units.

2.2 BASIC CONSOLIDATION TECHNIQUES

The basic procedures which should be applied when compiling consolidated annual financial

statements comprise the following:

. elimination of common items

. elimination of intercompany items

. consolidation of remaining items

2.2.1 The elimination of common items

One of the first adjustments which should be made in consolidated statements is the

elimination of the investment in the parent's books and the shareholders' equity section in the

subsidiary's books as at the date when the investment was made.

11ACN202R/1

Example 1

The following example illustrates the elimination of the investment in the parent's books

at date of acquisition:

Statement of financial position as at 28 February 19.5

A Ltd B Ltd

R R

ASSETS

Investment in B Ltd Ð at fair value 10 000 Ð

Cash and cash equivalents 10 000 10 000

20 000 10 000

EQUITY AND LIABILITIES

Ordinary shares of R1 each 20 000 10 000

Draft a consolidated statement of financial position for A Limited and its subsidiary at

28 February 19.5. Assume that A Limited acquired its interest at that date. B Limited was

incorporated on 28 February 19.5.

Journal entry

Dr Cr

R R

Share capital of B Ltd 10 000

Investment in B Ltd 10 000

Elimination of shareholders' equity of B Ltd at acquisition

The group consolidated statement of financial position would now be drafted as follows:

CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT28 FEBRUARY 19.5

ASSETS R

Cash and cash equivalents (10 000 + 10 000) 20 000


Share capital 20 000

12ACN202R/1

Example 2

The following example illustrates the elimination of the investment in the parent's books

a few years after acquisition:

STATEMENTS OF FINANCIAL POSITION AS AT 28 FEBRUARY 19.9

A Ltd B Ltd

R R

ASSETS

Investment in B Ltd Ð at fair value (cost price: R10 000) 10 000 Ð

Trade and other receivables 12 000 8 000

Cash and cash equivalents 14 000 10 000

36 000 18 000



Retained earnings 16 000 8 000

36 000 18 000

REQUIRED

Draft the consolidated statement of financial position of A Ltd and its subsidiary at

28 February 19.9. Suppose A Ltd acquired its interest at 28 February 19.5 when B Ltd was

incorporated.

Journal entry

Dr Cr

R R

Share capital of B Ltd 10 000



A GROUP LTD AND ITS SUBSIDIARY


ASSETS R

Current assets 44 000

Trade and other receivables (12 000 + 8 000) 20 000


Total assets 44 000


Total equity 44 000


Retained earnings (16 000 + 8 000) 24 000

Total equity and liabilities 44 000

13ACN202R/1

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On the basis of the above two examples the following conclusions can be made:

. The journal entry for the elimination of the investment and the shareholders' equity at the

date of acquisition will remain unchanged from one year to the next.

. The share capital on the consolidated statement of financial position is always only that of

the parent.

. Profits made by the subsidiary after the date of acquisition become part of the retained

earnings of the group and are shown as such in the consolidated statements. This principle

will be discussed at greater length in study unit 4.

. Profits made by the subsidiary before the date of acquisition cannot form part of the retained

earnings of the group. The parent pays for such profits. This principle will be dealt with in

more depth in study unit 4.

. Since the parent obtained its interest in the subsidiary at the date of incorporation (date on

which the company was established), there could not have been any retained earnings in

the books of B Ltd.

2.2.2 The elimination of intercompany items

It is commonly found in practice that companies in the same group sell inventories and assets

to one another.

The following schematic representation of this serves as an example:

A Ltd Timber to public

Sells Sells

machine timber

B Ltd Wooden wagons to the public

The actual profit the group made from the sale of goods was only the profit made from sales to

the public, since all the other sales took place within the group. Sales within a group are known

as intercompany sales and therefore have to be eliminated during consolidations.

In some cases A Ltd may lend or sell a sum of money or an asset to B Ltd. Such transactions

are also eliminated. In study unit 7 we go into intercompany transactions very thoroughly.

2.2.3 The consolidation of remaining items

Once all common items and intercompany items have been eliminated, a consolidated

statement of financial position, consolidated statement of comprehensive income, consolidated

statement of changes in equity and consolidated statement of cash flows can be drawn up. In

this course you are only expected to be able to do all relevant journal entries for consolidation

purposes and to draft the consolidated statement of financial position, consolidated statement

of comprehensive income and consolidated statement of changes in equity.

14ACN202R/1

2.3 CONSOLIDATION OF THE STATEMENT OF FINANCIALPOSITION OF A WHOLLY-OWNED SUBSIDIARY AT DATEOF ACQUISITION

The following three situations can arise if a parent obtains an interest in a subsidiary:

. The price paid by the parent for the interest/investment in the subsidiary is equivalent to the

value of the net assets acquired. An acquisition of this kind is known as an acquisition at net

asset value.

. The price paid by the parent for the interest is higher than the net asset value. This is known

as acquisition at a premium. This premium should be treated as goodwill.

AC 131/IFRS3 requires that goodwill must be recognised as an asset at cost. This is what is

expected from the students to know for this module.

. Take note that goodwill must not be amortised, but is subjected to impairment test, at least

every year. This part of treating goodwill will be dealt with in the Accounting III modules.

. The price paid by the parent is lower than the net asset value. This is known as acquisition

of a subsidiary at a discount also referred to as ``negative goodwill''.

AC 131/IFRS3 requires that, if the fair value of identifiable assets and liabilities exceeds the

cost of the business combination:

Ð reassess the identity and measurement of such items

Ð recognise in profit or loss any excess after reassessment

Such ``negative goodwill'' could arise from, inter alia, errors in measuring fair values of

identifiable items. For the purpose of this module, take note that ``negative goodwill'' is a

possibility when acquiring a subsidiary, but will be dealt with in Accounting III modules.

The following examples serve as an illustration of the situations which could arise:

Example 1

Acquisition of a subsidiary at net asset value

The following represent the abridged statements of financial position of A Limited and its

wholly-owned subsidiary B Limited at 31 December 19.5, the date on which A Limited acquired

its interest in B Limited.

STATEMENTS OF FINANCIAL POSITION AS AT 31 DECEMBER 19.5

A Ltd B Ltd

R RASSETS


Bank 30 000 55 000


180 000 90 000




180 000 90 000

15ACN202R/1

Calculations

1. Analysis of shareholders equity of B Ltd

Total At Since

R R R

Share capital 50 000 50 000 Ð

Retained earnings 40 000 40 000 Ð

90 000 90 000 Ð

Investment in B Limited 90 000

NIL

2. Journal entry

Dr Cr

R R

Ordinary shares of R1 each (B Ltd) 50 000

Retained earnings (B Ltd) 40 000



The price paid by A Limited for the investment in B Limited is equal to the value of net assets

acquired. (90 000 = 50 000 + 40 000)

CONSOLIDATED STATEMENT OF FINANCIAL POSITION OF A LTD ANDITS SUBSIDIARY AS AT 31 DECEMBER 19.5

R

ASSETS




Total assets 180 000


Total equity 180 000


Retained earnings 80 000


16ACN202R/1

Example 2

Acquisition of a subsidiary at a premium

The following represent the abridged statements of financial position of A Limited and its

wholly-owned subsidiary B Limited at 31 December 19.5, the date A Limited acquired its

interest in B Limited.

Note that the information is the same as in the previous example except for the investment,

which is now R100 000 and not R90 000.


A Ltd B Ltd

R R

ASSETS


Bank 20 000 55 000


180 000 90 000




180 000 90 000

Calculations


Total At Since

R R R



90 000 90 000 Ð

Investment in B Limited 100 000

Goodwill 10 000

2. Journal entry

Dr Cr

R R

Ordinary shares of R1 each (B Ltd) 50 000

Retained earnings (B Ltd) 40 000

Goodwill 10 000



17ACN202R/1

CONSOLIDATED STATEMENT OF FINANCIAL POSITION OF A LTD ANDITS SUBSIDIARY AS AT 31 DECEMBER 19.5

R

ASSETS

Non-current assets

Goodwill 10 000










COMMENTS

. In this example the parent paid more than the net asset value for its interest in the

subsidiary, which means that a premium (goodwill) was paid at acquisition. It is

regarded as an intangible asset and should be shown as a non-current asset in the

consolidated statement of financial position. In this module we determine the goodwill

at acquisition only. We do not take care of future changes in the value of goodwill. This

will be dealt with on third year level.

. The revised IFR53 was issued on 10th January 2008. The implications of the

statement where the two options of the calculation of goodwill. The two options are as

follows:

a) The partial method (the method used in this study guide)

b) The full goodwill method (Here the non-controlling interest at fair value is used to

derive goodwill.) However, this method will be dealt with further on third-year level.

Example 3

Acquisition of a subsidiary at a discount

COMMENT

This occurs when the parent paid less than the net asset value for its interest in the

subsidiary. Such treatment, in terms of AC 131, will be dealt with on third-year level.

18ACN202R/1

2.4 EXERCISES

To see whether you are able to apply the content of this study unit, work out the following

questions. It is important to answer the questions yourself before you look up the suggested

solutions.

Question 1

The statements of financial position of H Ltd and S Ltd as at 30 June 19.6 are submitted to you:

STATEMENTS OF FINANCIAL POSITIONS AS AT 30 JUNE 19.6

H Ltd S Ltd

R R

ASSETS

Investment in S Ltd Ð 100 000 shares at fair value

(cost price: R145:000) 145 000 Ð

Current assets 40 000 115 000

185 000 115 000


Ordinary share capital Ð R1 shares 100 000 100 000


185 000 115 000

REQUIRED

Draft the consolidated statement of financial position of H Ltd and its subsidiary as at 30

June 19.6 if H Ltd acquired its interest in S Ltd at 30 June 19.6

Question 2

The following trial balances are submitted to you:

TRIAL BALANCES AT 31 MARCH 19.5

H Ltd S Ltd

Dr/(Cr) Dr/(Cr)

R R

Ordinary shares of R1 each (100 000) (50 000)

Retained earnings (80 000) (20 000)


Inventories 20 000 35 000

Trade and other payables (15 000) (18 000)

Interest bearing borrowings (100 000) Ð

Loan Ð S Ltd 80 000 Ð

Investment in S Ltd Ð 50 000 shares at fair value

(cost price: R80 000) 80 000 Ð

Loan Ð H Ltd Ð (80 000)

Bank 25 000 58 000

Property, plant and equipment 50 000 60 000

19ACN202R/1

REQUIRED


March 19.5 if H Ltd acquired its interest in S Ltd at 31 March 19.5.

Solut ion

Quest ion 1

You should have followed the following steps:

Step 1 Ð Determine the percentage interest

Investment in S Ltd

Ordinary shares of S Ltd=

100 000 shares

100 000 shares6 100

= 100% (therefore wholly-owned subsidiary)

Note that the interest in S Limited i s determined by the amount of shares held in

S Limited and not the R-value. You must use 100 000 shares and not R145 000.

Step 2 Ð Draft the analysis of shareholders equity of S Ltd

Analysis of shareholders equity of S Ltd

Total At Since

R R R

Ordinary share capital 100 000 100 000 Ð


115 000 115 000 Ð

Investment in S Ltd at cost 145 000

Goodwill 30 000

Step 3 Ð Eliminate all common items

Journal entry

Dr Cr

R R

Share capital Ð S Ltd 100 000

Retained earnings Ð S Ltd 15 000

Goodwill 30 000

Investment in S Ltd 145 000

Elimination of shareholders' equity of S Ltd at acquisition

20ACN202R/1

Step 4 Ð Draft the consolidated statement of financial position:

CONSOLIDATED STATEMENT OF FINANCIAL POSITION OF H LTD ANDITS SUBSIDIARY AS AT 30 JUNE 19.6

ASSETS R

Non-current assets

Goodwill 30 000

Current assets (40 000 + 115 000) 155 000







Solut ion

Quest ion 2

You should have followed the following steps:

Step 1 Ð Determine the percentage interest:

Investment in S Ltd

Ordinary shares in S Ltd=

50 000 shares

50 000 shares6 100

= 100% (wholly-owned subsidiary)

Step 2 Ð Draft the analysis of shareholders equity of S Ltd:

Analysis of shareholders equity of S LtdTotal At Since

R R R



70 000 70 000 Ð


Goodwill 10 000

Step 3 Ð Eliminate common items:

Journal entriesDr Cr

R R

Loan Ð H Ltd 80 000

Loan Ð S Ltd 80 000

Elimination of intercompany loans

Share capital Ð S Ltd 50 000

Retained earnings Ð S Ltd 20 000

Goodwill 10 000



21ACN202R/1

Step 4 Ð Draft the consolidated statement of financial position:

CONSOLIDATED STATEMENT OF FINANCIAL POSITION OF H LTD ANDITS SUBSIDIARY AS AT 31 MARCH 19.5

R

ASSETS

Non-current assets 120 000

Property, plant and equipment (50 000 + 60 000) 110 000

Goodwill (10 000)



Inventories (20 000 + 35 000) 55 000







Total liabilities 133 000

Non-current liabilities

Long-term borrowings 100 000

Current liabilities

Trade and other payables (15 000 + 18 000) 33 000


. You will note that in our proposed solutions to the assignments we show first the

consolidated statement of financial position and then the calculations. We will not criticise

your method of setting out your answer, but do make sure that you answer the question in

full.

. It would be perfectly acceptable to give some of the easier calculations in brackets, as in our

proposed solutions.

SELF -ASSESSMENT


. draft the consolidated annual financial statements of a parent and its wholly-owned

subsidiary at date of acquisition?

. calculate intercompany items and common items?

. calculate goodwill at acquisiton of a subsidiary?

. do the consolidation journal entries?

22ACN202R/1

STUDY UNIT

3Consolidation of partly-ownedsubsidiary at date of acquisition

Learning outcome

Learners can consolidate the financial statements of a group at date of acquisitionof a subsidiary if partly-owned.

OVERVIEW

This study unit is divided into the following:Page

Key concepts 23


3.1 Introduction 24

3.2 Consolidation of the statement of financial position of a partly-owned

subsidiary at date of acquisition 24

3.3 Exercises 31

Solutions 33

Self-assessment 36

KEY CONCEPTS

. Partly-owned subsidiary

. Outside shareholders

. Non-controlling shareholders

. Non-controlling interest

23ACN202R/1

!

!

ASSESSMENT CRITERIA

After having studied this study unit, you should be able to

. calculate the percentage applicable to non-controlling shareholders

. draft the consolidated annual financial statements of a group at date of acquisition if

the subsidiary is partly-owned


3.1 INTRODUCTION

In study unit 2 we dealt only with wholly-owned subsidiaries which means that the parent has

acquired the entire issued share capital of the subsidiary.

There may, however, be various reasons why it is impossible for the parent to take up all the

shares in the subsidiary. Some of the shareholders may not be prepared to sell their shares to

the parent or the parent may not have sufficient funds to purchase all the shares. These other

shareholders are known as non-controlling shareholders or outside shareholders. Non-

controlling shareholders may consist of ordinary shareholders and preference shareholders.

Subsidiaries with preference shares will be dealt with in study unit 9.

3.2 CONSOLIDATION OF THE STATEMENT OF FINANCIALPOSITION OF A PARTLY-OWNED SUBSIDIARY AT DATEOF ACQUISITION

The same rules apply for consolidation purposes, except that we now have to make provision

for the non-controlling shareholders' interest in the profit of the subsidiary.

Example

H Ltd

80% of voting right

20% of voting right

S Ltd Non-controlling shareholders

To make provision for the non-controlling shareholders' interest in the profit of the subsidiary,

it is important to know how to calculate the percentage interest in the subsidiary.

24ACN202R/1

Example 1

The following represent the condensed statements of financial position of A Ltd and its

subsidiary B Ltd:

STATEMENTS OF FINANCIAL POSITION AS AT 30 JUNE 19.6

A Ltd B Ltd

R R

ASSETS


Investment in B Ltd

Ð 80 000 ordinary shares of R1 each at fair value

(cost price: R90 000) 90 000 Ð


350 000 210 000


Issued capital Ð Ordinary shares of R1 each 200 000 100 000


Long-term loans 100 000 80 000

350 000 210 000

We calculate the parent's interest in the subsidiary as follows:

Investment in B Ltd

Issued shares of B Ltd=

80 000 shares

100 000 shares6 100 = 80%

This is to say that A Ltd has an 80% interest in B Ltd and that the non-controlling

shareholders of B Ltd have only a 20% interest in B Ltd.

25ACN202R/1

Example 2

The following represent the condensed statements of financial position of H Ltd and S Ltd:

STATEMENTS OF FINANCIAL POSITION AS AT 31 JULY 19.4

H Ltd S Ltd

R R

ASSETS


Investment in S Ltd

Ð 35 000 ordinary shares of R2 each at fair value

(cost price: R75 000) 75 000 Ð


350 000 210 000




Long-term loans 100 000 80 000

350 000 210 000

In this example the par value of the shares differs, however. They are now R2 shares, so that

the issued share capital of S Ltd consists of 50 000 R2 shares = R100 000.

We now calculate the interest in the subsidiary as follows:

Investment in S Ltd

Issued shares in S Ltd=

35 000 shares

50 000 shares6 100 = 70%

As in the case of wholly-owned subsidiaries the following three situations may occur when a

parent acquires an interest in a partly-owned subsidiary:

. Acquired at net asset value

. Acquired at a premium (Goodwill)

. Acquired at a discount (``negative goodwill'')

The following examples will illustrate the three situations.

26ACN202R/1

Example 3

Acquisition of a partly-owned subsidiary at net asset value

The following are the abridged statements of financial position of A Limited and it subsidiary

B Limited as at 31 December 19.9, the date on which A Limited acquired its interest in B

Limited.


A Ltd B Ltd

R R

ASSETS


Investment in B Ltd Ð 56 000 ordinary shares at fair value

(cost price: R98 000) 98 000 Ð


398 000 270 000




Trade and other payables 178 000 130 000

398 000 270 000

We follow the basic consolidation procedures:

. determine the percentage interest

. eliminate common items


1. Determine the percentage interest

A Ltd acquired 56 000 shares

B Ltd has 80 000 shares

; A Ltd's interest =56 000

80 0006

100

1= 70%

2. Analysis of shareholders equity of B Ltd at 31 December 19.9

A LtdNon-

Total At

acquisition

Since

acquisition

controlling

interest

70% 30%

R R R R

At acquisition

Share capital 80 000 56 000 24 000

Retained earnings 60 000 42 000 18 000

140 000 98 000 42 000


NIL

27ACN202R/1

. In this question the date of acquisition and the date of consolidation are one and the same,

which is why the statement of financial position does not include any of the subsidiary's

reserves.

3. Journal entry

Non-

controlling

Dr Cr interest

R R R




Non-controlling interest

(Statement of financial position) 42 000 42 000

Elimination of shareholders' equity of B Ltd at acquisition 42 000

A LTD AND ITS SUBSIDIARY

CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT31 DECEMBER 19.9

19.9

R

ASSETS

Non-current assets


Current assets





Equity attributable to owners of the parent 220 000



Non-controlling interest 42 000

Current liabilities



28ACN202R/1

Example 4

Acquisition of a partly-owned subsidiary at a premium (Goodwill)

The following are the abridged statements of financial position of A Limited and its subsidiary

B Limited as at 31 December 19.9, the date on which A Limited acquired its interest in B

Limited.

STATEMENTS OF FINANCIAL POSITION AS AT 31 DECEMBER 19.9A Ltd B Ltd

ASSETS R R


Investment in B Ltd

Ð 64 000 ordinary shares at fair value

(cost price: R140 000) 140 000 Ð


398 000 270 000





398 000 270 000

We once again follow the basic consolidation procedures:

. determine the percentage interest

. eliminate common items


1. Determine the percentage interest

A Ltd acquired 64 000 shares

B Ltd has 80 000 shares

; A Ltd's interest = 64 000

80 0006

100

1= 80%

2. Analysis of shareholders equity of B Ltd at 31 December 19.9

A LtdNon-

Total At

acquisition

Since

acquisition

controlling

interest

80% 20%

R R R R

At acquisition

Share capital 80 000 64 000 16 000


140 000 112 000 28 000


Goodwill 28 000

29ACN202R/1

3. Journal entry

Non-

controlling

Dr Cr interest

R R R



Goodwill 28 000


Non-controlling interest (Statement of financial position) 28 000 28 000


28 000



19.9

R

ASSETS



Goodwill 28 000

Current assets









Current liabilities



30ACN202R/1

Example 5

Acquisition of a partly-owned subsidiary at a discount(``negative goodwill)

Acquisition of a subsidiary at a discount will be dealt with in detail at third year level and does

not form part of this course.

3.3 EXERCISES

We shall now conclude this study unit with a few revision questions. It is in your own interest to

try to answer these questions by referring to the study unit before you look at the proposed

solutions.

Question 1

H Ltd acquired its interest in S Ltd at 30 June 19.5. Each share carries one vote. The following

represent the condensed trial balances of H Ltd and S Ltd at 30 June 19.5:

H Ltd S Ltd

R R

Debits


Investment in S Ltd

Ð 75 000 shares of R1 each at fair value

(cost price: R90 000) 90 000 Ð

Ð 10 000 debentures of R1 each at fair value

(cost price: R10 000) 10 000 Ð

Bank 2 500 Ð


171 000 138 100

Credits

Share capital Ð Ordinary shares of R1 each 150 000 100 000


Debentures Ð 20 000


Bank overdraft Ð 5 600

171 000 138 100

REQUIRED

Draft the consolidated statement of financial position of H Ltd and its subsidiary S Ltd as at

30 June 19.5 in compliance with the requirements of the Companies Act, 1973.

31ACN202R/1

Question 2

H Ltd acquired 40 000 ordinary shares in S Ltd at 1 January 19.5 and each share carries one

vote.

The following represent the condensed statements of financial position of H Ltd and S Ltd at

1 January 19.5:

H Ltd S Ltd

R R

ASSETS


Unsecured loan Ð H Ltd Ð 20 000

Investment in S Ltd 180 000 Ð

40 000 Ordinary shares at fair value

(cost price: R180 000)


327 200 192 800


Share capital 200 000 100 000

Ordinary shares of R2 each

Revaluation of land and buildings Ð 50 000


Interest bearing borrowing Ð S Ltd 20 000 Ð

Current liabilities 11 500 2 800

327 200 192 800

REQUIRED

Draft the consolidated statement of financial position of H Ltd and its subsidiary S Ltd as at

1 January 19.5 in compliance with the requirements of the Companies Act, 1973.

32ACN202R/1

Solut ion

Quest ion 1

1. Calculate H Ltds percentage interest in S Ltd

H Ltd acquires 75 000 shares, each carrying one vote.

S Ltd issued 100 000 shares, each carrying one vote.

; H Ltd's share holding =75 000

100 0006 100

1= 75%

2. Analysis of shareholders equity of S Ltd at 30 June 19.5

H LtdNon-

Total At

acquisition

Since

acquisition

controlling

interest

75% 25%

R R R R

At acquisition

Share capital 100 000 75 000 25 000


111 300 83 475 27 825(a)


Goodwill 6 525(b)

3. Journal entries

Non-

controlling

Dr Cr interest

R R R



Goodwill 6 525


Non-controlling interest 27 825 27 825


Debentures (S) 10 000

Investment in debentures (H) 10 000

Elimination of intercompany balances

27 825(a)

33ACN202R/1

H LTD AND ITS SUBSIDIARY

CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT30 JUNE 19.5

R

ASSETS



Goodwill 6 525(b)


Inventories (15 800 + 4 200) 20 000

Cash and cash equivalents 2 500







Non-controlling interest 27 825(a)



Debentures (20 000 7 10 000) 10 000

Current liabilities 15 600


Bank overdraft 5 600


. In terms of the Companies Act debit and credit bank balances may not be set off against

each other upon consolidation, and therefore the parent's favourable bank balance and the

subsidiary's bank overdraft are separately shown.

. The balances can only be set off against each other if the company with the favourable

balance has guaranteed the overdrawn account, provided that both accounts are at the

same bank.

34ACN202R/1

Solut ion

Quest ion 2

Calculations

1. Calculate H Ltds percentage interest in S Ltd

H Ltd obtains 40 000 R2 shares.

S Ltd issued 50 000 shares (R100 000 7 R2 shares).

; H Ltd's share holding =40 000

50 0006 100

1= 80%

2. Analysis of shareholders equity of S Ltd at 1 January 19.5

H LtdNon-

Total At

acquisition

Since

acquisition

controlling

interest

80% 20%

R R R R

At acquisition

Share capital 100 000 80 000 20 000


Revaluation reserve 50 000 40 000 10 000

190 000 152 000 38 000(b)


Goodwill 28 000(a)

3. Journal entriesNon-

controlling

Dr Cr interest

R R R


Revaluation reserve 50 000


Goodwill 28 000




Long-term loan Ð S Ltd 20 000

Unsecured loan Ð H Ltd 20 000


38 000(b)

35ACN202R/1


CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT1 JANUARY 19.5

R

ASSETS



Goodwill 28 000(a)

Current assets (44 000 + 15 500) 59 500







Non-controlling interest 38 000(b)

Current liabilities (11 500 + 2 800) 14 300


SELF -ASSESSMENT


. calculate the percentage applicable to non-controlling shareholders?

. draft the consolidated annual financial statements of a group at date of acquisition if

the subsidiary is partly-owned?


36ACN202R/1

STUDY UNIT

4Consolidation of wholly-owned subsidiaryafter date of acquisition

Learning outcome

Learners can draft financial statements of a group if the interest in the wholly-owned subsidiary was acquired a few years ago.

OVERVIEW


Page

Key concepts 37


4.1 Introduction 38

4.2 Dividends from pre-acquisition profits 38

4.3 Treatment of goodwill arising on acquisition 40

4.4 Consolidation of wholly-owned subsidiary after date of acquisition 40

4.5 Exercises 48

Solutions 51

Self-assessment 58

KEY CONCEPTS

. Pre-acquisition profits

. Post-acquisition profits

37ACN202R/1

ASSESSMENT CRITERIA


. draft the consolidated annual financial statements of a group if the interest in the

wholly-owned subsidiary was acquired a few years ago

. draft the consolidated annual financial statements of a group if a dividend is being

declared from pre-acquisition profits

. calculate the goodwill which may arise at acquisition


4.1 INTRODUCTION

In study unit 2 we discussed the consolidation of a wholly-owned subsidiary at the date of

acquisition. In this study unit we deal with the compiling of consolidated annual financial

statements at any date after the acquisition of an interest in a subsidiary. The shareholders'

equity (share capital and reserves) of a subsidiary, which arises upon acquisition of the

subsidiary, is always eliminated against the investment in the subsidiary. It does not form part of

the shareholders' equity (share capital and reserves) of the group. The parent originally paid for

it. Refer to examples 1 to 3 in study unit 2 if you need to make sure of the above statement.

It follows from this that all profits the subsidiary makes after the date of acquisition become

profits of the group and should therefore be included as such in the consolidated statements.

All reserves (distributable and non-distributable reserves) of a subsidiary which was formed

after the date of acquisition form part of the total reserves of the group.

4.2 DIVIDENDS FROM PRE-ACQUISITION PROFITS

In the above introduction we explained to you that all post-acquisition profits form part of the

total reserves of the group. What happens if a subsidiary pays a dividend from pre-acquisition

profit? The payment of a dividend from pre-acquisition profits is brought to book as a capital

receipt by the parent.

The distributable reserves which existed at the date of acquisition of the subsidiary form part of

the total shareholders' equity of the subsidiary. The parent paid for the shareholders' equity

upon purchase of the shares in the subsidiary. The declaration of a dividend from distributable

reserves, which existed at the date of acquisition of an interest in the subsidiary, is therefore

nothing other than the refunding of a portion of the purchase price.

38ACN202R/1

Example 1

The following are the condensed statements of financial position of A Ltd and B Ltd as at

31 December 19.5:

STATEMENTS OF FINANCIAL POSITIONS AS AT 31 DECEMBER 19.5

A Ltd B Ltd

R R

ASSETS


Investment in B Ltd at fair value (cost price R110 000) 110 000 Ð


210 000 100 000




210 000 100 000

A Ltd acquired its 100% interest in B Ltd at 30 December 19.5. At 2 January 19.6 B Ltd

declared a dividend of R40 000.

REQUIRED

Draft the statements of financial position of A Ltd and B Ltd directly after the payment of

the dividend and compile an analysis of shareholders' equity, as required for consolidation

purposes.

The entry in the books of A Ltd immediately following the acquisition of the dividend would look

like this:

Dr Cr

R R

Bank 40 000


The statements of financial position would look like this:

STATEMENTS OF FINANCIAL POSITION AS AT 2 JANUARY 19.6

A Ltd B Ltd

R R

ASSETS


Investment in B Ltd at fair value 70 000 Ð

Current assets (10 000 + 40 000 cash);

(60 000 ± 40 000 cash) 50 000 20 000

210 000 60 000



Retained earnings (50 000 ± 40 000 dividend) 80 000 10 000

210 000 60 000

39ACN202R/1

Analysis of shareholders' equity of B Ltd

Total At Since

R R R



At acquisition 50 000 50 000

Less: Dividend from pre-acquisition profits 40 000 40 000

60 000 60 000 Ð


At cost price 110 000

Less: Dividend from pre-acquisition profits 40 000

Goodwill 10 000

4.3 TREATMENT OF GOODWILL ARISING ONACQUISITION

By now you should be familiar with the term goodwill. A parent may pay more or less than the

net asset value of the shares acquired with the purchase of the interest in the subsidiary. This

can be attributed to:

. specific items (for example fixed property, plant) which has a market value higher/lower than

the carrying value

. the value of the undertaking as a whole

Goodwill arising on acquisition of a subsidiary represents a payment made by the parent in

anticipation of future economic benefits. Goodwill is reflected at cost price for purposes of this

course. Any future adjustments in value will be dealt with on third year level.

The alternative option issued by IFRS3 will also be dealt with further on third-year level.

4.4 CONSOLIDATION OF WHOLLY-OWNED SUBSIDIARYAFTER DATE OF ACQUISITION

Where consolidation takes place at date after the acquisition of the interest in the subsidiary,

both the statements of financial position and the statements of comprehensive incomes of the

parent and the subsidiary must be consolidated.

We shall continue to follow the same consolidation procedures, namely:

. elimination of common items

. elimination of intercompany items


We now turn our attention to a new aspect, namely that in the analysis of shareholders' equity

of the subsidiary there will have to be a division into various periods. The following serves as an

example of this:

Suppose A Ltd acquired its 100% interest in B Ltd at 1 January 19.1. You are required to draft

40ACN202R/1

the consolidated financial statements for the year ended 31 December 19.8. The analysis of

shareholders' equity will now be divided into three parts.

Analysis of shareholders equity of B Ltd

Total At Since

R R R

At acquisition

1 January 19.1

Since acquisition to beginning of current year

2 January 19.1 to

31 December 19.7

Current year

1 January 19.8 to

31 December 19.8

As in the previous study units we will again deal with the three conditions under which shares

can be acquired in a subsidiary.

Example 1

Acquisition of wholly-owned subsidiary at net asset value

The following are the abridged statements of financial position of A Ltd and its

subsidiary B Ltd as at 31 December 19.6:


A Ltd B Ltd

R R

ASSETS


Investment in B Ltd


(cost price: R124 000) 124 000 Ð


398 000 270 000





398 000 270 000

A Ltd acquired its interest in B Ltd at 1 January 19.6, when B Ltd's retained earnings amounted

to R44 000.

At the date of acquisition, consider the carrying amount of the assets and liabilities of B Ltd to

be equal to the fair value thereof.

41ACN202R/1

STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEAR ENDED 31DECEMBER 19.6

A Ltd B Ltd

R R

Profit before tax 35 000 23 000

Income tax expense (11 000) (7 000)

Profit for the year 24 000 16 000

Other comprehensive income Ð Ð

Total comprehensive income for the year 24 000 16 000

STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 19.6

Share capital Retained earnings Total

A Ltd B Ltd A Ltd B Ltd A Ltd B Ltd

R R R R R R

Balance at 31 December 19.5 100 000 80 000 96 000 44 000 196 000 124 000

Total comprehensive income for the year 24 000 16 000 24 000 16 000


Presume now that you have to draft the consolidated statement of comprehensive income,

consolidated statement of changes in equity and the consolidated statement of financial

position at 31 December 19.6.

Before you can draft these statements you have to do the following first:

. analysis of shareholders' equity in B Ltd

. consolidation journal entries

1. Analysis of shareholders equity in B Ltd

A Ltd 100%Non-

Total

At

acquisition

Since

acquisition

controlling

interest 0%

R R R R

At acquisition ± 1 Jan 19.6



124 000 124 000


NIL

Current year ± 1 Jan 19.6

to 31 Dec 19.6


140 000 16 000

42ACN202R/1

2. Journal entry

Dr Cr

R R

Share capital (B) 80 000

Retained earnings (B) 44 000

Investment in B Ltd (A) 124 000



CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME FOR THEYEAR ENDED 31 DECEMBER 19.6

R

Profit before tax (35 000 + 23 000) 58 000

Income tax expense (11 000 + 7 000) (18 000)

Profit for the period 40 000

Other comprehensive income Ð

Total comprehensive income for the year 40 000


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEARENDED 31 DECEMBER 19.6

Attributable to owners of the parent

Share Retained Total

capital earnings

R R R

Balance at 31 December 19.5 100 000 96 000* 196 000


Balance at 31 December 19.6 100 000 136 000 236 000

* Only parent's interest due to the fact that the interest was acquired on 1 Janauary 19.6



R

ASSETS

Non-current assets


Current assets







Current liabilities



43ACN202R/1

Example 2

Acquisition of wholly-owned subsidiary at a premium

The following are the abridged statements of financial position of A Ltd and its

subsidiary B Ltd as at 31 December 19.6:


A Ltd B Ltd

R R

ASSETS


Investment in B Ltd Ð 80 000 ordinary shares

at fair value (cost price: R148 000) 148 000 Ð


398 000 270 000





398 000 270 000

A Ltd acquired its interest in B Ltd at 1 January 19.5 when B Ltd's retained earnings amounted

to R26 000.



STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEAR ENDED31 DECEMBER 19.6

A Ltd B Ltd

R R

Profit from operations 25 000 23 000

Dividends received from subsidiary 10 000 Ð






44ACN202R/1




R R R R R R



Ordinary dividend (15 000) (10 000) (15 000) (10 000)


REQUIRED

You are required to draft the consolidated statement of comprehensive income,

consolidated statement of changes in equity and the consolidated statement of financial

position at 31 December 19.6.

Calculations


A Ltd 100%Non-control-

Total

At

acquisition

Since

acquisition

ling interest

0%

R R R R




106 000 106 000


42 000(1)

Since acquisition to be-

ginning of current year 2

Jan 19.5 to 31 Dec 19.5

Retained earnings

(54 000 31/12/19.5 Ð

26 000 1/1/19.5

28 000 28 000(2)

Current year Ð 1 Jan 19.6

to 31 Dec 19.6


Dividend paid (10 000) (10 000)

140 000 34 000

45ACN202R/1

2. Journal entries

Dr Cr

R R

Share capital (B) 80 000

Retained earnings (B) 26 000

Goodwill 42 000

Investment in B Ltd (A) 148 000


Dividend received (A) 10 000

Dividend paid (B) 10 000

Elimination of intercompany dividend



R



Profit for the year 30 000







capital earnings

R R R

Balance at 31 December 19.5 100 000 139 000# 239 000

Total comprehensive income for the year 30 000# 30 000

Dividends paid (15 000) (15 000)


# [111 000 + 28 000(2)]

46ACN202R/1



R

ASSETS



Goodwill (1) 42 000

Current assets







Current liabilities



Example 3

Acquisition of a wholly-owned subsidiary at a discount

Acquisition at a discount does not form part of this course and will be dealt with in detail at third-

year level.

47ACN202R/1

4.5 EXERCISES

We conclude this study unit with a few revision questions. It is important that you work through

these questions carefully, paying special attention to the comments, since by this stage you

have progressed so far with consolidations that it is easier to point out certain important

principles to you.

Question 1

The following are the trial balances of H Ltd and its subsidiary S Ltd at 31 December 19.8:

H Ltd S Ltd

Credits R R


Retained earnings Ð 1 January 19.8 250 000 130 000

Gross profit 410 000 360 000

Dividends received 30 000 Ð


Accumulated depreciation Ð 31 December 19.8 50 000 30 000

Bank overdraft 30 000 Ð

950 000 630 000

Debits

Property, plant and equipment at cost price 152 000 100 000

Investment in S Ltd

Ð 50 000 shares at fair value (cost price: R150 000) 150 000 Ð



Bank Ð 68 000

Auditors' remuneration 15 000 12 000

Staff cost 100 000 80 000

Depreciation 15 000 10 000

Taxation for the year 108 000 90 000

Dividends paid 40 000 30 000

950 000 630 000

Additional information

1. H Ltd acquired its interest in S Ltd at 2 January 19.5, at which date the retained earnings of

S Ltd was R80 000. At the date of acquisition, consider the carrying amount of the assets

and liabilities of S Ltd to be equal to the fair value thereof.

REQUIRED

Draft the consolidated statement of financial position, consolidated statement of

comprehensive income and consolidated statement of changes in equity of H Ltd and its

subsidiary for the year ended 31 December 19.8.

48ACN202R/1

Question 2

The following are the trial balances of A Ltd and its subsidiary B Ltd at 31 December 19.8:

A Ltd B Ltd

Credits R R



Gross profit 410 000 360 000





950 000 630 000

Debits


Investment in B Ltd




Bank Ð 68 000


Staff cost 100 000 80 000




950 000 630 000


1. A Ltd acquired its interest in B Ltd at 2 January 19.5, and at that date the retained

earnings of B Ltd was R80 000. At the date of acquisition, consider the carrying

amount of the assets and liabilities of B Ltd to be equal to the fair value thereof.

REQUIRED

Draft the consolidated statement of financial position of A Ltd and its subsidiary as at

31 December 19.8.

49ACN202R/1

Question 3

The following are the trial balances of J Ltd and its subsidiary L Ltd at 31 December 19.8:

J Ltd L Ltd

Credits R R



Gross profit 410 000 360 000





950 000 630 000

Debits


Investment in L Ltd




Bank Ð 68 000


Staff cost 100 000 80 000




950 000 630 000


1. J Ltd acquired its interest in L Ltd at 2 January 19.5, at which date the retained earnings of

L Ltd was R80 000. At the date of acquisition, consider the carrying amount of the assets

and liabilities of L Ltd to be equal to the fair value thereof.

REQUIRED

Draft the consolidated statement of comprehensive income and consolidated

statement of changes in equity of J Ltd and its subsidiary for the year ended 31

December 19.8.

50ACN202R/1

Solut ion

Quest ion 1



R

ASSETS


Property, plant and equipment

[(152 000 + 100 000) 7 (50 000 + 30 000)] 172 000

Goodwill (calculation 1) 20 000


Inventories (180 000 + 160 000) 340 000














Note R

Gross profit (410 000 + 360 000) 770 000

Administrative expenses (15 000 + 12 000 + 15 000 + 10 000

+ 100 000 + 80 000) (232 000)

Profit before tax 1 538 000





51ACN202R/1


NOTES FOR THE YEAR ENDED 31 DECEMBER 19.8

1. Profit before tax

Profit before tax is arrived at after taking into account the following:

Expenses R

Auditors' remuneration (15 000 + 12 000) 27 000

Depreciation (15 000 + 10 000) 25 000

Staff cost (100 000 + 80 000) 180 000



Attributable to ownersof the parent

Share Retained Totalcapital earnings

R R R





# (250 000 + 50 000(1))

Calculations

1. Analysis of shareholders equity of S Ltd

H Ltd 100%Non-control-

TotalAt

acquisitionSince

acquisitionling interest

0%

R R R R

At acquisition ± 2 Jan 19.5Share capital 50 000 50 000Retained earnings 80 000 80 000

130 000 130 000Investment in S Ltd 150 000

Goodwill 20 000(1)

Since acquisition to beginningof current year 3 Jan 19.5 to31 Dec 19.7Retained earnings

(130 000 31/12/19.7 Ð80 000 2/1/19.5 50 000 50 000(1)

Current year 1 Jan 19.8 Ð31 Dec 19.8Profit for the year (calculation 1) 168 000 168 000Dividends paid (30 000) (30 000)

318 000 188 000

52ACN202R/1

2. Profit for the year

R

Gross profit 360 000)

Auditors' remuneration (12 000)

Staff cost (80 000)

Depreciation (10 000)

258 000)

Taxation for the year (90 000)

168 000)

3. Journal entries

Dr Cr

R R



Goodwill 20 000



Dividends received Ð H Ltd 30 000

Dividends paid Ð S Ltd 30 000

Elimination of intercompany dividends

COMMENTS

. In this example we shall divide the analysis of shareholders' equity into three parts

(periods) because we require the figure for retained earnings for the subsidiary at

31 December 19.7 in order to draft the statement of changes in equity.

. Note that we eliminated the intercompany item, namely dividends of R30 000 paid by

the subsidiary.

. Note also that if the parent or a subsidiary has a bank overdraft, it may not be deducted

from the favourable bank balance of another company in the group (even if both

companies hold their accounts at the same bank). Both balances must be shown

separately. The deduction is permitted only if the company with the favourable balance

has guaranteed the overdrawn account.

53ACN202R/1

Solut ion

Quest ion 2



ASSETS R



[(152 000 + 100 000) ± (50 000 + 30 000)] 172 000

Goodwill (calculation 1) 20 000


Inventories (180 000 + 160 000) 340 000







Retained earnings [(412 000 ± 30 000 dividend received)

+ (188 000(1) + 30 000 dividend paid)] 600 000





54ACN202R/1

Calculations


A Ltd 100%Non-control-

Total

At

acquisition

Since

acquisition

ling interest

0%

R R R R




130 000 130 000


Goodwill 20 000

Since acquisition to end of

current year 3 Jan 19.5 to

31 Dec 19.8

Retained earnings

(31/12/19.8 218 000 218 000

Gross profit 360 000

Income tax expense (90 000)


Staff cost (80 000)



Retained earnings

31/12/19.7 130 000

Retained earnings

2/1/19.5 (80 000)

Dividend paid (30 000) (30 000)

318 000 188 000(1)

2. Retained earnings of A Ltd

R


Dividends received 30 000

Expenses (130 000)

Auditors' remuneration 15 000

Staff cost 100 000

Depreciation 15 000

310 000


Dividends paid (40 000)

Retained earnings 1 January 19.8 250 000

412 000

55ACN202R/1

3. Journal entriesDr Cr

R R



Goodwill 20 000



Dividends received Ð A Ltd 30 000

Dividends paid Ð B Ltd 30 000


COMMENTS

. Since we merely asked for a consolidated statement of financial position in this

question, the analysis of shareholders' equity looks different from that in question 1.

Because the consolidated statement of comprehensive income and consolidated

statement of changes in equity were not asked for, we do not require the figure for

retained earnings at the beginning of the year (see (1) in question 1). The ``since

acquisition'' sections in the analysis can therefore be combined and we therefore

include all movements on retained earnings for the period since acquisition to the end

of the current year.

. Because a complete consolidated statement of changes in equity is no longer

available, retained earnings should be shown separately, as in calculation 2.

Solut ion

Quest ion 3

J LTD AND ITS SUBSIDIARY


Note

R

Gross profit (410 000 + 360 000) 770 000

Administrative expenses (15 000 + 12 000 + 15 000

+ 10 000 + 100 000 + 80 000) (232 000)






56ACN202R/1





Expenses R


Depreciation (15 000 + 10 000) 25 000

Staff cost (100 000 + 80 000) 180 000


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THEYEAR ENDED 31 DECEMBER 19.8

Attributable to owners

of the parent


capital earnings

R R R





# (250 000 + 50 000(1))

Calculations

1. Analysis of shareholders equity of L Ltd

J Ltd 100%Non-control-

TotalAt

acquisitionSince


0%

R R R RAt acquisition ± 2 Jan 19.5



130 000 130 000

Investment in L Ltd 150 000

Goodwill 20 000

Since acquisition to be-ginning of current year 3Jan 19.5 to 31 Dec 19.7

Retained earnings(130 000 31/12/19.7 Ð80 000 2/1/19.5 50 000 50 000(1)

Current year 1 Jan 19.8 Ð31 Dec 19.8

Profit for the year (calc 2) 168 000 168 000


318 000 188 000

57ACN202R/1


R



Staff cost (80 000)


258 000)

Taxation for the year (90 000)

168 000)

3. Journal entries

Dr Cr

R R



Goodwill 20 000


Elimination of shareholders' equity of L Ltd at acquisition

Dividends received Ð J Ltd 30 000

Dividends paid Ð L Ltd 30 000


COMMENT

In this question you are merely expected to draft a consolidated statement of

comprehensive income and a consolidated statement of changes in equity. However, you

will notice that the calculations for question 1 and question 3 are very similar.

SELF -ASSESSMENT


. draft the consolidated annual financial statements of a group if the interest in the

wholly-owned subsidiary was acquired a few years ago?

. draft the consolidated annual financial statements of a group if a dividend is being

declared from pre-acquisition profits?

. calculate the goodwill which may arise at acquisition?


58ACN202R/1

STUDY UNIT

5Consolidation of partly-owned subsidiaryafter date of acquisition

Learning outcome

Learners can draft financial statements of a group where the interest in the partly-owned subsidiary was acquired a few years previously.

OVERVIEW


Page

Key concepts 59


5.1 Introduction 60

5.2 Consolidation of partly-owned subsidiary after date of acquisition 60

5.3 Intercompany transactions 63

5.4 Exercises 64

Solutions 66

Self-assessment 72

KEY CONCEPTS

. Intercompany transactions

ASSESSMENT CRITERIA


. draft the consolidated annual financial statements of a group where the interest in

the partly-owned subsidiary was acquired a few years previously


59ACN202R/1

5.1 INTRODUCTION

In study unit 3 you were introduced to the consolidation process for a partly-owned subsidiary

at date of acquisition. In study unit 4 we went a step further by explaining the consolidation

process for a wholly-owned subsidiary after date of acquisition. In this study unit you will learn

about the consolidation process which takes place when a partly-owned subsidiary is

consolidated at a date after acquisition.

The same basic calculations as in study unit 4 will be followed except that you will always need

to make provision for the non-controlling interest in the profit. You will notice that the profit

attributable to the non-controlling shareholders is disclosed separately on the consolidated

statement of comprehensive income and in the consolidated statement of changes in equity.

5.2 CONSOLIDATION OF PARTLY-OWNED SUBSIDIARYAFTER DATE OF ACQUISITION

As we said above, the consolidation process you have applied up to now remains exactly the

same except for the addition of a separate calculation for non-controlling shareholders.

Example 1

The following represent the abridged financial statements of X Ltd and its subsidiary Y Ltd:


X Ltd Y Ltd

R R

ASSETS


Investment in Y Ltd Ð 30 000 ordinary shares of R2 each at

fair value (cost price: R152 500) 152 500 Ð


Bank 27 000 45 000

430 000 345 000





430 000 345 000

X Ltd acquired its interest in Y Ltd at 1 January 19.7 when Y Ltd's retained earnings amounted

to R110 000. At the date of acquisition, consider the carrying amount of the assets and

liabilities of Y Ltd to be equal to the fair value thereof.

60ACN202R/1


X Ltd Y Ltd

R R

Gross profit 107 000 105 000

Dividends received from subsidiary 7 500 Ð








X Ltd Y Ltd X Ltd Y Ltd X Ltd Y Ltd

R R R R R R



Dividend paid (20 000) (10 000) (20 000) (10 000)


If we were to draft the consolidated financial statements of X Ltd and its subsidiary for the year

ended 31 December 19.9 we would go about it in the following manner:

Calculations

1. Analysis of shareholders equity of Y Ltd

X Ltd 75%Non-control-

TotalAt

acquisitionSince


25%

R R R RAt acquisition

Share capital 80 000 60 000 20 000


190 000 142 500 47 500

Investment in Y Ltd 152 500

Goodwill 10 000

Since acquisition to be-ginning of current year

Retained earnings(130 000 ± 110 000) 20 000 15 000(2)

5 000(a)

Current year

Profit for the year 70 000 52 500 17 500(1)/(b)

Dividends paid (10 000) (7 500) (2 500)(c)

270 000 60 000 67 500(3)/(d)

* R80 000 7 R2 shares = 40 000 shares

; 30 000 7 40 000 = 75% interest

61ACN202R/1

2. Journal entries

Non-

controlling

Dr Cr interest

R R R



Goodwill 10 000



Elimination of shareholders' equity of Y Ltd at acquisition



Recording of non-controlling interest in Y Ltd for the

period 1/7/19.7 to 31/12/19.8

52 500(a)

Non-controlling interest (SCI)* 17 500

Non-controlling interest (SFP)* 17 500 17 500(b)

Recording of non-controlling interest in profit after tax

Dividends received Ð X Ltd 7 500

Non-controlling interest (SFP) 2 500 (2 500)(c)

Dividends paid Ð Y Ltd 10 000

Elimination of intercompany dividend and recording of

non-controlling interest in dividend

67 500(d)

* (SCI) = Statement of comprehensive income

(SFP) = Statement of financial position

X LTD AND ITS SUBSIDIARY


R






Profit attributable to:

Owners of the parent (142 500 ± 17 500) 125 000

Non-controlling interest 17 500(1)(b)

142 500

Total comprehensive income attributable to:

Owners of the parent 125 000


142 500

62ACN202R/1


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED

31 DECEMBER 19.9

Attributable to owners of Non-

the parent control-

Share Retained Total ling Total

capital earnings interest equity

R R R R R

Balance at 31 December 19.8 100 000 225 000# 325 000 52 500(a) 377 500

Total comprehensive income for the year 125 000 125 000 17 500(b) 142 500

Dividend paid (20 000) (20 000) (2 500)(c) (22 500)

Balance at 31 December 19.9 100 000 330 000 430 000 67 500(d) 497 500

# (210 000 + 15 000(2))


CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT

31 DECEMBER 19.9

R

ASSETS



Goodwill 10 000










Non-controlling interest(3)/(d) 67 500

Current liabilities



5.3 INTERCOMPANY TRANSACTIONS

We explained to you in a previous study unit that profit which arises from a transaction within

the group (where this profit has not been realised in respect of a transaction with a person

outside the group) must be excluded in determining total group profit.

When a parent sells inventories to a subsidiary at a profit and these inventories are still in the

possession of the subsidiary at year end, this profit has not yet been realised. It is only when

the subsidiary sells the inventories to a person outside the group that the profit is realised. In

63ACN202R/1

the consolidated statement of financial position inventories will therefore always be shown at

the original amount for which the inventories were manufactured or purchased by a member of

the group.

Another intercompany transaction which frequently occurs relates to amounts which are due/

payable between the parent and the subsidiary within the group.

We shall be examining this aspect more closely in study unit 7.

5.4 EXERCISES

Work through the following questions and ensure that you fully understand the way the

solutions are set out, since we shall be adding more complicated aspects in the following four

study units.

Question 1

H Ltd acquired 60 000 ordinary shares in S Ltd at 1 March 19.1 when the retained earnings of

S Ltd was R12 000.

At the date of acquisition, consider the carrying amount of the assets and liabilities of S Ltd to


The following represent the statements of financial position of H Ltd and S Ltd at 28 February

19.2:

H Ltd S Ltd

R R

ASSETS


Investment in S Ltd 127 200 Ð


(cost price: R127 200)


166 400 228 300




Interest bearing borrowings 30 800 2 200


166 400 228 300

REQUIRED

Draft the consolidated statement of financial position of H Ltd and its subsidiary as at

28 February 19.2 in compliance with the requirements of the Companies Act, 1973 if each

share carries one vote.

64ACN202R/1

Question 2

The following are the condensed trial balances of X Ltd and Y Ltd at 31 December 19.6:

X Ltd Y Ltd

R R





Accumulated depreciation on property, plant and equipment 20 000 40 000

405 000 205 000


Investment in Y Ltd at fair value

Ð 16 000 ordinary shares of R1 each (cost price: R33 600) 33 600 Ð



405 000 205 000


1. X Ltd acquired its interest on 1 January 19.5 when the retained earnings amounted to

R22 000. At the date of acquisition, consider the carrying amount of the assets and

liabilities of Y Ltd to be equal to the fair value thereof.

REQUIRED

Draft the consolidated statement of financial position, consolidated statement of

comprehensive income and consolidated statement of changes in equity of X Ltd and its

subsidiary for the year ended 31 December 19.6.

Question 3

The following are the abridged statements of M Ltd and N Ltd for the year ended 30 June 19.8:

STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEAR ENDED30 JUNE 19.8

M Ltd N Ltd

R R






65ACN202R/1

STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED 30 JUNE 19.8


M Ltd N Ltd M Ltd N Ltd M Ltd N Ltd

R R R R R R

Balance at 30 June 19.7 100 000 80 000 56 000 54 000 156 000 134 000


Dividends paid (5 000) Ð (5 000) Ð

Balance at 30 June 19.8 100 000 80 000 109 000 89 000 209 000 169 000


M Ltd acquired a 70% interest in N Ltd on 17 July 19.2. At that date the retained earnings of N

Ltd was R10 000. There was no goodwill at date of acquisition. At the date of acquisition,

consider the carrying amount of the assets and liabilities of N Ltd to be equal to the fair value

thereof.

REQUIRED


statement of changes in equity of M Ltd and its subsidiary for the year ended 30 June

19.8.

Solut ion

Quest ion 1



R

ASSETS

Non-current assets


Current assets (8 600 + 10 100) 18 700






Retained earnings (24 500 + 5 100(1)) 29 600

Non-controlling interest(2)/(a) 88 200



Long-term loans (30 800 + 2 200) 33 000



66ACN202R/1

Calculations


H LtdNon-

Total At

acquisition

Since

acquisition

controlling

interest

60% 40%

R R R R

At acquisition

Share capital

(60 000 6 R2

200 0006 100

1) = 60%

200 000 120 000 80 000


212 000 127 200 84 800


NIL


current year

Retained earnings

(20 500 ± 12 000) 8 500 5 100 3 400

220 500 6 100(1) 88 200(2)

2. Journal entries

Non-

controlling

Dr Cr interest

R R R








Recording of non-controlling interest in S Ltd for the period

1/3/19.1 to 28/2/19.2

88 200(a)

67ACN202R/1

Solut ion

Quest ion 2



R

ASSETS

Non-current assets

Property, plant and equipment [(263 000 + 117 000) ±

(20 000 + 40 000)] 320 000

Current assets (66 400 + 60 000) 126 400







Non-controlling interest(3)/(c) 21 400





R


Income tax expense (42 000 + 28 000) (70 000)(1)/(b)





Owners of the parent (130 000 ± 10 400) 119 600)(1)/(b)

Non-controlling interest 10 400(1)/(b))

130 000)(1)/(b)




130 000

68ACN202R/1


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED31 DECEMBER 19.6


the parent control-



R R R R R

Balance at 31 December 19.5 100 000 130 400# 230 400 11 000(a) 241 400


Balance at 31 December 19.6 100 000 250 000 350 000 21 400(c) 371 400

# (120 000 + 10 400(2))

Calculations


X Ltd 80%Non-control-

TotalAt

acquisitionSince


20%


Share capital 20 000 16 000 4 000


42 000 33 600


NIL


ginning of current year

Retained earnings

(35 000 ± 22 000) 13 000 10 400(2) 2 600

Current year

Profit for the year 52 000 41 600 10 400

Profit before tax 80 000

Income tax expense (28 000) (7 500) (2 500)(c)

107 000 52 000 21 400(3)

*16 000

20 0006 100

1= 80%

69ACN202R/1

2. Journal entries

Non-

controlling

Dr Cr interest

R R R





Elimination of shareholders' equity of Y Ltd at acquisition



Recording of non-controlling interest in Y Ltd for the

period 1/1/19.5 to 31/12/19.5

11 000(a)

Non-controlling interest (SCI) 10 400

Non-controlling interest (SFP) 10 400 10 400(b)

Recording of non-controlling interest in profit after tax

21 400(c)

Solut ion

Quest ion 3

M LTD AND ITS SUBSIDIARY

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME FOR THEYEAR ENDED 30 JUNE 19.8

R









93 000




93 000

70ACN202R/1

M LTD AND ITS SUBSIDIARY

CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED30 JUNE 19.8


the parent control-



R R R R R

Balance at 30 June 19.7 100 000 86 800# 186 800 40 200(a) 227 000


Dividends paid (5 000) (5 000) Ð (5 000)

Balance at 30 June 19.8 100 000 164 300 264 300 50 700(c) 315 000

# (56 000 + 30 800(d))

Calculations

1. Analysis of shareholders equity of N Ltd

M Ltd 70%Non-control-

TotalAt

acquisitionSince


30%


Share capital 80 000 56 000 24 000


90 000 63 000 27 000(a)

Investment in N Ltd 63 000

NIL


ginning of current year

Retained earnings

(54 000 ± 10 000) 44 000 30 800(d) 13 200(a)

Current year

Profit for the year 35 000 24 500 10 500(b)

169 000 55 300 50 700(c)

71ACN202R/1


controlling

Dr Cr interest

R R R



Investment in N Ltd 63 000


Elimination of shareholders' equity of N Ltd

at acquisition



Recording of non-controlling interest in N Ltd for

the period 17/7/19.2 to 30/6/19.7

40 200(a)



Recording of non-controlling interest in profit for the year

50 700(c)

SELF -ASSESSMENT


. draft the consolidated annual financial statements of a group where the interest in

the partly-owned subsidiary was acquired a few years previously?


72ACN202R/1

STUDY UNIT

6Acquisition of an interest in a subsidiaryduring the year

Learning outcome

Learners can draft the consolidated financial statements where the interest in asubsidiary was acquired on a date other than at the end of the financial year.

OVERVIEW


Page

Key concepts 73


6.1 Introduction 74

6.2 Apportionment of statement of comprehensive income items 74

6.3 Apportionment of items in the statement of changes in equity 74

6.4 Presentation of the consolidated statement of comprehensive income

and consolidated statement of changes in equity 74

6.5 Effective date of acquisition 82

6.6 Exercise 83

Solution 84

Self-assessment 88

KEY CONCEPTS

. Effective date

. Apportion

. Pre-acquisition period

. Post-acquisition period

73ACN202R/1

ASSESSMENT CRITERIA


. allocate the profit of the subsidiary in the year of acquisition between at and since

acquisition reserves

. draft the consolidated financial statements where the interest in a subsidiary was

acquired on a date other than at the end of the financial year


6.1 INTRODUCTION

In the preceding study units the date of acquisition of an interest in a subsidiary was

consistently taken to be the first day of the subsidiary's accounting period. In practice it very

seldom happens that the effective date on which the delivery of shares takes place coincides

with the end of a financial year. The purchase of an interest in a subsidiary at a date other than

the accounting date is known as an interim acquisition of a subsidiary. Allocation of statement

of comprehensive income items is therefore necessary to determine the amount of retained

earnings at the effective date, a prerequisite for determining the goodwill at date of acquisition.

6.2 APPORTIONMENT OF STATEMENT OF COMPREHEN-SIVE INCOME ITEMS

The profit or loss for any financial year of the subsidiary may, if it is not practicable to apportion

it with reference to the facts, be treated as if it accrued from day to day during the year and be

apportioned accordingly.

Income and expenditure items must be examined individually in order to determine the basis

on which each item should be apportioned between the period before acquisition and the

period since acquisition.

6.3 APPORTIONMENT OF ITEMS IN THE STATEMENT OFCHANGES IN EQUITY

Preference dividends regarding issued preference shares of the subsidiary should be

accounted for on a time basis. The preference dividend must be accounted for even if it has not

been declared.

Ordinary dividends declared are by nature year-end items and fall into the post-acquisition

period.

6.4 PRESENTATION OF THE CONSOLIDATED STATEMENTOF COMPREHENSIVE INCOME AND CONSOLIDATEDSTATEMENT OF CHANGES IN EQUITY

The first step in preparing the consolidated statement of comprehensive income and

consolidated statement of changes in equity where the subsidiary was acquired during the

current financial year, is to apportion the income and expenditure of the current year between

74ACN202R/1

pre- and post-acquisition periods. Once this has been done the consolidated statement of

comprehensive income and consolidated statement of changes in equity can be drawn up

according to one of two methods.

The first method, where only the post-acquisition profits are included in the operating profit, isThe first method, where only the post-acquisition profits are included in the operating profit, is

prescribed for this module.prescribed for this module.

Example 1

The following are the trial balances of Sandy Limited and South Limited for the year ended

31 December 20.2:

Sandy

Limited

South

Limited

R R

Issued share capital Ð R1 ordinary shares (800 000) (340 000)

Share premium Ð (15 000)

Retained earnings 1 January 20.2 (480 000) (120 000)

Gross profit (422 700) (166 200)

Dividends received Ð 31 December 20.2 (23 800) Ð



Staff costs 95 000 35 000

Interest paid on bank overdraft 3 800 Ð

Income tax expense 12 000 4 200

Dividends declared and paid Ð 31 December 20.2 80 000 34 000

Property, plant and equipment at carrying amount 861 600 426 200

Investment in South Limited at fair value

Ð 238 000 shares purchased 1 July 20.2

(Cost price: R364 700) 364 700 Ð

Cash at bank 126 700 51 800

Inventory 72 200 43 000


1. South Limited became a subsidiary of Sandy Limited on 1 July 20.2. The profit of South

Limited was earned evenly throughout the year. At the date of acquisition, consider the

carrying amount of the assets and liabilities of South Ltd to be equal to the fair value

thereof. The excess of the purchase price over the net carrying amount of the assets at the

date of acquisition was attributable to the difference between the carrying amount and the

fair value of land and buildings.

REQUIRED

Draft the consolidated statement of comprehensive income and consolidated statement of

changes in equity of Sandy Limited and its subsidiary for the year ended 31 December

20.2. Include only the post-acquisition profit after tax in the profit after tax of the group. Do

all calculations to the nearest rand.

75ACN202R/1

Solut ion 1

SANDY LIMITED AND ITS SUBSIDIARY


Notes R


[422 700 + (166 200/12 6 6)]

Administrative expenses(246 500)

[102 000 + (42 000/12 6 6)] + [95 000 +

(35 000/12 6 6)] + [8 500 + (5 000/12 6 6)]

Finance costs (3 800)

Profit before tax 1 255 500)

Income tax expense [12 000 + (4 200/12 6 6)] (14 100)

Profit for the year 241 400)






241 400




241 400




Profit before tax is arrived at after taking into account the following: R

Expenses


Depreciation (102 000 + 21 000) 123 000

Staff costs (95 000 + 17 500) 112 500

76ACN202R/1




the parent control-



R R R R R

Balance at 31 December 20.1 800 000 480 000# 1 280 000 Ð 1 280 000

Equity on date of acquisition 156 300(a) 156 300


Dividends paid (80 000) (80 000) (10 200)(c) (90 200)

Balance at 31 December 20.2 800 000 629 400 1 429 400 158 100(d) 1 587 500

Calculations:

1. Analysis of shareholders equity of South Limited

Sandy Limited

Total At

acquisition

Since

acquisition

Non-control-

ling interest

70%(1) 30%

R R R R

At acquisition

Share capital 340 000 238 000 102 000

Share premium 15 000 10 500 4 500

Retained earnings

1/1/20.2 120 000 84 000 36 000

Retained earnings 40 000(2) 28 000 12 000

Revaluation of land and

buildings 6 000(4) 4 200(3) 1 800

521 000 364 700 156 300(a)

Investment in South Ltd 364 700

NIL

Current year

Profit for the year 40 000(5) 28 000 12 000(b)

Dividends (34 000) (23 800) (10 200)(c)

527 000 4 200 158 100(d)

(1) 238 000/340 000 6 100 = 70%

(3) 364 700 7 238 000 7 10 500 7 84 000 7 28 000 = 4 200

(balancing figure)

(4) 4 200/70% = 6 000

77ACN202R/1

2. Allocation of statement of comprehensive income items

Total 1/1/20.2 to

30/6/20.2

1/7/20.2 to

31/12/20.2

R R R

Gross profit 166 200 83 100 83 100

Auditors' remuneration (5 000) (2 500) (2 500)

Depreciation (42 000) (21 000) (21 000)

Staff costs (35 000) (17 500) (17 500)

Income tax (4 200) (2 100) (2 100)

Profit earned throughout the year 80 000 40 000(2) 40 000(5)

3. Journal entries

Non-

controlling

Dr Cr interest

R R R


Share premium 15 000



Investment in South Limited 364 700

Non-controlling interest 156 300 156 300(a))

Elimination of shareholders' equity of

South Limited at acquisition


Non-controlling interest (SFP) 12 000 12 000(b))

Recording of non-controlling interest in

profit after tax

Dividends received Ð Sandy Limited 23 800


Dividends paid Ð South Limited 34 000

Elimination of intercompany dividend and

recording of non-controlling interest in

dividend

158 100(d))

According to the alternative method, both the pre- and post-acquisition profits after tax of the

subsidiary is included in the profit after tax for the year. Thereafter, the profit earned by the

subsidiary before acquisition of the controlling interest is then deducted in order to determine

the profit of the group for the year.

78ACN202R/1

Example 2

The following are the trial balances of Sandy Limited and South Limited for the year ended 31

December 20.2:

Sandy

Limited

South

Limited

R R

Issued share capital Ð R1 ordinary shares (800 000) (340 000)

Share premium Ð (15 000)

Retained earnings 1 January 20.2 (480 000) (120 000)

Gross profit (422 700) (166 200)

Dividends received Ð 31 December 20.2 (23 800) Ð



Staff costs 95 000 35 000

Interest paid on bank overdraft 3 800 Ð


Dividends declared and paid Ð 31 December 20.2 80 000 34 000

Property, plant and equipment at carrying amount 861 600 426 200

Investment in South Limited at fair value

Ð 238 000 shares purchased 1 July 20.2

(Cost price: R364 700) 364 700 Ð

Cash at bank 126 700 51 800

Inventory 72 200 43 000


South Limited became a subsidiary of Sandy Limited on 1 July 20.2. The profit of South Limited

was earned evenly throughout the year. At the date of acquisition, consider the carrying

amount of the assets and liabilities of South Ltd to be equal to the fair value thereof. The

excess of the purchase price over the net carrying amount of the assets at the date of

acquisition was attributable to the difference between the carrying amount and the actual value

of land and buildings.

REQUIRED

Draft the consolidated statement of comprehensive income and consolidated statement of

changes in equity of Sandy Limited and its subsidiary for the year ended 31 December

20.2. Include both the pre- and post-acquisition profit of the subsidiary in the profit after tax

of the group. Do all calculations to the nearest rand.

79ACN202R/1

Solut ion 2



Notes R


(422 700 + 166 200)

Administrative expenses (287 500)

(102 000 + 42 000 + 95 000 + 35 000

+ 8 500 + 5 000)

Finance costs (3 800)

Profit before tax 1 297 600)


Profit after tax 281 400)

Profit earned by subsidiary for 6 months before acquisition

(40 000)(3)

Profit for the year 241 400)






241 400




241 400

SANDY LIMITED AND ITS SUBSIDIARYNOTES FOR THE YEAR ENDED 31 DECEMBER 20.2


R


Expenses


Depreciation (102 000 + 42 000) 144 000

Staff cost (95 000 + 35 000) 130 000

80ACN202R/1




the parent control-



R R R R R

Balance at 31 December 20.1 800 000 480 000# 1 280 000 Ð 1 280 000



Dividends paid (80 000) (80 000) (10 200)(c) (90 200)

Balance at 31 December 20.2 800 000 629 400 1 429 400 158 100(d) 1 587 500

Calculations

1. Analysis of shareholders equity of South Limited

Sandy Limited

Total At

acquisition

Since

acquisition

Non-control-

ling interest

70%(1) 30%

R R R R

At acquisition

Share capital 340 000 238 000 102 000

Share premium 15 000 10 500 4 500

Retained earnings

1/1/20.2 120 000 84 000 36 000


Revaluation of land and

buildings 6 000(4) 4 200(3) 1 800

521 000 364 700 156 300(a)

Investment in South Ltd 364 700

NIL

Current year


Dividends (34 000) (23 800) (10 200)(c)

527 000 4 200 158 100(d)

(1) 238 000/340 000 6 100 = 70%

(4) 364 700 7 238 000 7 10 500 7 84 000 7 28 000 = 4 200(balancing figure)

(5) 4 200/70% = 6 000

81ACN202R/1

2. Retained earnings at acquisition

R

Gross profit (166 200 6 6/12) 83 100

Auditors' remuneration (5 000 6 6/12) (2 500)

Depreciation (42 000 6 6/12) (21 000)

Staff costs (35 000 6 6/12) (17 500)

Income tax expense (4 200 6 6/12) (2 100)

40 000


Gross profit (166 200 6 6/12) 83 100

Auditors' remuneration (5 000 6 6/12) (2 500)

Depreciation (42 000 6 6/12) (21 000)

Staff costs (35 000 6 6/12) (17 500)

Income tax expense (4 200 6 6/12) (2 100)

40 000


controlling

Dr Cr interest

R R R





Investment in South Limited 364 700

Non-controlling interest 156 300 156 300(a))

Elimination of shareholders' equity of South

Limited at acquisition


Non-controlling interest (SFP) 12 000 12 000(b))

Recording of non-controlling interest in profit

after tax

Dividends received Ð Sandy Limited 23 800


Dividends paid Ð South Limited 34 000

Elimination of intercompany dividend and

recording of non-controlling interest in divi-

dend 158 100(d)

6.5 EFFECTIVE DATE OF ACQUISITION

The date of acquisition is the date on which control of the net assets and operations of the

subsidiary is effectively transferred to the parent. In practice there must be certainty as to the

date of acquisition as this is the date from which the results of the subsidiary are to be included

in the group annual financial statements. A number of possible dates can be considered, for

example:

82ACN202R/1

. the date on which substantial agreement is reached

. the date on which the control over the net assets and activities of the subsidiary is

transferred to the parent

. the date of signing of the agreement

. the date specified in the agreement

. the date of payment of the purchase consideration.

6.6 EXERCISE

Question 1

West Limited became a subsidiary of East Limited on 1 January 20.2. At the date of acquisition,

consider the carrying amount of the assets and liabilities of West Ltd to be equal to the fair

value thereof. The following are the trial balances of East Limited and West Limited for the year

ended 30 September 20.2:

EastLimited

WestLimited

R R

Credits


Ð 12% Preference shares of R1 each 20 000 Ð

6% Debentures 100 000 45 000

Retained earnings Ð 1 October 20.1 800 000 305 000

Sales 607 000 428 250

Interest received Ð 2 400



Shareholders for dividend 10 000 Ð

Bank 4 000 Ð

Accumulated depreciation 53 500 22 950

Long-term borrowing Ð Bank Limited Ð 105 000

1 681 550 1 081 440

Debits


Cost of sales 390 000 285 500

Administrative expenses 65 000 47 000


Interest paid 4 500 2 700

Income tax @ 28% 36 960 20 202


Bank Ð 18 000


Dividends declared Ð 30 September 20.2 10 000 Ð

Investment in West Limited (75% equity) at fair value(cost price: R349 453) 349 453 Ð

Investment in South Limited Ð 6% Debentures at fair value(cost price: R40 000) Ð 40 000

1 681 550 1 081 440

83ACN202R/1


1. West Limited applied for a loan at Bank Limited on 1 July 20.1. The loan was granted at an

interest rate of 20% per annum for a period of 5 years. The interest for the year ended 30

September 20.2 is not recorded yet.

2. The sales of West Limited is seasonal, 60% of the sales was earned during the first six

months of the financial year. The remaining amount of the sales figure was earned evenly

spread over the rest of the financial year. West Limited maintain a gross profit percentage

of 50% on the cost price. All other income and expenditure were received and spent evenly

throughout the year. Income tax must be apportioned according to the profit before tax for

that period.

REQUIRED

Draft the consolidated annual financial statements of East Limited and its subsidiary for

the year ended 30 September 20.2. Your answer must comply with the requirements of the

Companies Act, 1973 and Generally Accepted Accounting Practice. Include only the post-

acquisition profit after tax in the profit after tax of the group. Do all calculations to the

nearest rand.

Solut ion

Quest ion 1

EAST LIMITED AND ITS SUBSIDIARY

CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT30 SEPTEMBER 20.2

R

ASSETS


Property, plant and equipment 856 650

(481 100 + 452 000 7 53 500 7 22 950)

Goodwill 13 358

Investment in South Limited Ð 6% Debentures at fair value 40 000




Total assets 1 450 783

84ACN202R/1

R


Total equity 1 108 143


Share capital (75 000 + 20 000) 95 000

Retained earnings(e) 893 907

Non-controlling interest(d) 119 236


Non-current liabilities 250 000

6% Debentures (100 000 + 45 000) 145 000

Long-term loan 105 000


Trade and other payables (8 300 + 47 840 + 21 000(f) + 1 500(g)) 78 640

Dividends payable 10 000


Total equity and liabilities 1 450 783

(f) R105 000 loan 6 20% = R21 000(g) R100 000 debentures 66% = R6 000

In trial balance = R4 500

Additional provision = R6 000 7 R4 500 = R1 500


CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME FOR THEYEAR ENDED 30 SEPTEMBER 20.2

Notes R

Revenue (607 000 + 299 775(2)) 906 775

Cost of sales (390 000 + 199 850) (589 850)


Other income(7) 1 800

Other expenses (15 500 + 1 725(5) + 65 000 + 35 250(4)) (117 475)

Finance charges (4 500(g) + 1 500(g) + 17 775(6)) (23 775)


Income tax expense (36 960 + 13 153(8)) (50 113)







Total comprehensive income attributable to: 127 362

Owners of parent 118 907


127 362

85ACN202R/1

EAST LIMITED AND ITS SUBSIDIARYNOTES FOR THE YEAR ENDED 30 SEPTEMBER 20.2


R


Income

Income from investment(7) 1 800

Expenses

Depreciation (15 500 + 1 725(5)) 17 225


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED30 SEPTEMBER 20.2


Share 12% Preference Retained Total Non- Total

capital share earnings controlling equity

capital interest

R R R R R R

Balance at 30 September 20.1 75 000 20 000 800 000 # 895 000 Ð 895 000



Dividends declared (10 000) (10 000) Ð (10 000)

Dividends paid (15 000) (15 000) (1 250)(c) (16 250)

Balance at 30 September 20.2 75 000 20 000 893 907(e) 988 907 119 236(d) 1 108 143

Calculations

1. Analysis of shareholders equity of West Limited

East Limited 75% Non-control-

TotalAt

acquisitionSince

acquisitionling inter-est 25%


Share capital 125 000 93 750 31 250

Retained earnings 1/10/20.1 305 000 228 750 76 250


447 874 336 095 112 031(a)

Investment in West Ltd 349 453

Goodwill 13 358

Current year


Dividends (5 000) (3 750) (1 250)

476 696 21 617 119 236

86ACN202R/1

2. Allocation of statement of comprehensive income items

Total 1/10/20.1

to

31/12/20.1

1/1/20.2 to

30/9/20.2

R R R

Sales 428 250 128 475(2) 299 775(2)

Cost of sales (285 500) (85 650) (199 850)

Gross profit 33,3% 142 750 42 825(3) 99 925(3)

Administrative expenses (47 000) (11 750)(4) (35 250)(4)

Depreciation (2 300) (575)(5) (1 725)(5)

Profit from operations 93 450 30 500 62 950

Finance costs (2 700 + 21 000(f)) (23 700) (5 925)(6) (17 775)(6)

Income on investment 2 400 600(7) 1 800(7)

Profit before tax 72 150 25 175 46 975

Income tax (20 202) (7 049)(8) (13 153)(8)

Profit for the year 51 948 18 126(9) 33 822(10)

(f) R105 000 loan 6 20% = R21 000

(g) R100 000 debentures 6 6% = R6 000

As per trial balance = R4 500

Additional provision: R6 000 ± R4 500 = R1 500

(1) 75% equity given

(2) Sales

R428 250 6 60% = R256 950 for the first 6 months

; for the first 3 months = R256 950/2 = R128 475

; for the remaining 9 months = R428 250 7 R128 475 = R299 775

(3) Gross profit

R128 475 6 50/150 = R42 825

R299 775 6 50/150 = R99 925

(4) Administrative expenses

R47 000 6 3/12 = R11 750

R47 000 6 9/12 = R35 250

(5) Depreciation

R2300 6 3/12 = R575

R2300 6 9/12 = R1 725

(6) Finance costs

R23 700 6 3/12 = R5 925

R23 700 6 9/12 = R17 775

(7) Income from investments

R2400 6 3/12 = R600

R2400 6 9/12 = R1 800

(8) Income tax expense

R25 175 6 28% = R7 049

R46 975 6 28% = R13 153

87ACN202R/1

3. Journal entries

Non-

controlling

Dr Cr interest

R R R


Retained earnings (305 000 + 17 874) 322 874

Goodwill 13 338

Investment in West Limited 349 453

Non-controlling interest 112 031 112 031(a)

Elimination of shareholders' equity ofWest Limited at acquisition



Recording of non-controlling interest inprofit after tax

Dividends received Ð East Limited 3 750


Dividends paid Ð West Limited 5 000

Elimination of intercompany dividend andrecording of non-controllinginterest in dividend

119 236(d)

SELF -ASSESSMENT


. allocate the profit of the subsidiary in the year of acquisition between at and since

acquisition reserves?

. draft the consolidated financial statements where the interest in a subsidiary was

acquired on a date other than at the end of the financial year?


88ACN202R/1

STUDY UNIT

7Elimination of intercompany transactions

Learning outcome

Learners can eliminate intercompany transactions in the financial statements of agroup.

OVERVIEW


Page

This topic is divided into the following:

Key concepts 89


7.1 Introduction 91

7.2 Intercompany bills of exchange and bank overdrafts 91

7.3 Revaluation of property, plant and equipment 91

7.4 Unrealised profit in trading inventories 96

7.5 Property, plant and equipment held by companies in the group 104

7.6 Exercises 119

Solutions 122

Self-assessment 129

KEY CONCEPTS

. Intercompany bills of exchange

. Discounting of bills of exchange

. Property, plant and equipment

89ACN202R/1

ASSESSMENT CRITERIA


. record intercompany bills of exchange and bank overdrafts correctly in consolidated

annual financial statements

. determine the reserve when revaluing property at acquisition of an interest in a

subsidiary

. calculate the unrealised profit in trading inventories in both the parent and the

subsidiary


. draft the consolidated annual financial statements of a group if sales of property,

plant and equipment have taken place between companies in the group

90ACN202R/1

7.1 INTRODUCTION

In the preceding study units we introduced you to the basic consolidation process for wholly-

owned and partly-owned subsidiaries.

In this study unit we deal mainly with other intercompany transactions which also take place in

groups and which therefore have to be eliminated for consolidation purposes. We shall be

dealing with trading inventories, property, plant and equipment held in a group.

We should like to emphasise that we doWe should like to emphasise that we do notnot deal with taxation on unrealised intercompanydeal with taxation on unrealised intercompany

profits/losses in this course.profits/losses in this course.

7.2 INTERCOMPANY BILLS OF EXCHANGE AND BANKOVERDRAFTS

A bill of exchange is a negotiable document. It is a written instruction directed by one person to

another instructing that person to pay, upon demand, a certain sum of money to the person

nominated in the bill of exchange.

For example:

Bill no. 111 30/10/19.8

To: H Ltd Amount: R2 000

Pay on 30/11/19.8 to S Ltd the amount

of R2 000

In their books S Ltd would treat it as a bill receivable and H Ltd would show it as a bill payable.

Upon consolidation the subsidiary's bill receivable would be set off against the bill payable in H

Ltd's books.

The bill could have been converted into cash before 30/11/19.8 by S Ltd by selling it to a

financial institution. This type of transaction is known as discounting.

On consolidation, the bank overdraft of one company in the group should only be set off

against the favourable bank balance of another company if:

. both companies have their accounts at the same bank and

. the company with the favourable balance has guaranteed the overdraft of the other

company or

. the bank itself would set off the two amounts against each other in terms of an agreement

between the two companies and the bank.

7.3 REVALUATION OF PROPERTY, PLANT AND EQUIPMENT

It is possible that the assets of a subsidiary may be revalued at the date of acquisition of the

interest, where there is a difference between the carrying amounts and market values of the

assets.

Two situations may arise:

. The subsidiary's assets may be revalued merely for the purposes of determining the

purchase price, without a journal entry being made in the subsidiary's books.

. The assets of the subsidiary are revalued in order to determine the purchase price and an

adjustment is subsequently made in the subsidiary's books.

Revaluation of assets may cause capital gains tax but for this module it must be ignored.

The following two questions will be used as examples to explain the two situations to you.

91ACN202R/1

Question 1

A Ltd acquired 80 000 shares in B Ltd at 1 July 19.1. Each share carries one vote. At that datethe land and buildings belonging to B Ltd were valued at R200 000. No adjustment was madein the books of B Ltd. The retained earnings was R46 000. At 30 June 19.4 the trial balances ofA Ltd and B Ltd were as follows:

A Ltd B LtdR R

CreditsIssued capital Ð Ordinary shares of R1 each 300 000 100 000Retained earnings 121 000 92 000Long-term borrowings Ð C Ltd 140 000 Ð

Ð A Ltd Ð 80 000Current liabilities 15 000 66 000

576 000 338 000DebitsLand and buildings at cost price 250 000 140 000Investment in B Ltd at fair value (cost price: R164 800) 164 800 ÐLoan Ð B Ltd 80 000 ÐCurrent assets 81 200 198 000

576 000 338 000


1. At the date of acquisition, consider the carrying amount of the assets and liabilities of B Ltd

to be equal to the fair value thereof.

REQUIRED

Draft the consolidated statement of financial position of A Ltd and its subsidiary as at 30

June 19.4 in compliance with the requirements of the Companies Act, 1973.



RASSETSNon-current assetsProperty, plant and equipment (250 000 + 200 000) 450 000Current assets (81 200 + 198 000) 279 200Total assets 729 200

EQUITY AND LIABILITIESTotal equity 508 200

Equity attributable to owners of the parent 457 800Share capital 300 000Retained earnings (121 000 + 36 800(b)) 157 800

Non-controlling interest(a) 50 400


Non-current liabilitiesLong-term loan 140 000Current liabilities (15 000 + 66 000) 81 000Total equity and liabilities 729 200

92ACN202R/1

Calculations:


A Ltd

Total At

acquisition

Since

acquisition

Non-

controlling

interest

80% 20%

R R R R

At acquisition

Share capital 100 000 80 000 20 000


Revaluation reserve

(200 000 ± 140 000)

60 000 48 000 12 000

206 000 164 800 41 200


NIL


current year

Retained earnings

(92 000 ± 46 000) 46 000 36 800 9 200

252 500 38 800(b) 50 400(a)

2. Journal entries

Non-

controlling

Dr Cr interest

R R R




Goodwill nil




B Ltd at acquisition




B Ltd for the period 1 July 19.1 to

30 June 19.4

Loan Ð A Ltd 80 000

Loan Ð B Ltd 80 000


50 400(a)

93ACN202R/1

Question 2

H Ltd acquired a 70% interest in S Ltd at 1 May 19.2. Each share carries one vote. At the

date of acquisition H Ltd valued the land and buildings belonging to S Ltd, the carrying

amount of which was R200 000, at R300 000. It is company policy to value the land and

buildings belonging to S Ltd at 31 August every second year. At the date of acquisition the

retained earnings of S Ltd was R20 000. The following represents the condensed trial

balances of H Ltd and S Ltd at 31 December 19.6:

H Ltd S LtdR R

CreditsIssued capital Ð Ordinary shares of R5 each 100 000 80 000Retained earnings 160 000 40 000Long-term borrowing Ð H Ltd Ð 100 000Current liabilities 140 000 20 000Non-distributable reserve Ð

Revaluation of land and buildings 100 000 150 000500 000 390 000

DebitsLand and buildings at valuation 200 000 350 000Investment in S Ltd at fair value (cost price: R140 000) 140 000 ÐUnsecured loan Ð S Ltd 100 000 ÐCurrent assets 60 000 40 000

500 000 390 000


1. At the date of acquisition, consider the carrying amount of the assets and liabilities of S Ltd


REQUIRED


December 19.6 in compliance with the requirements of the Companies Act, 1973.



ASSETS RNon-current assetsProperty, plant and equipment (200 000 + 350 000) 550 000Current assets (60 000 + 40 000) 100 000Total assets 650 000

EQUITY AND LIABILITIESTotal equity 490 000

Equity attributable to owners of the parent 409 000Share capital 100 000Other components of equity (100 000 + 35 000(1)) 135 000Retained earnings (160 000 + 14 000(2)) 174 000

Non-controlling interest(3)/(a) 81 000Current liabilities (140 000 + 20 000) 160 000Total equity and liabilities 650 000

94ACN202R/1

Calculations


H Ltd

Total Atacquisition

Sinceacquisition

Non-control-ling interest

80% 20%

R R R R

At acquisition

Share capital 80 000 56 000 24 000


Revaluation reserve(200 000 ± 140 000)

100 000 70 000 30 000

200 000 140 000 60 000


NIL

Since acquisition to end ofcurrent year

Retained earnings(40 000 ± 20 000)

20 000 14 000 RE 6 000

Revaluation reserve

(150 000 ± 100 000) 50 000 35 000 OE 15 000

270 000 14 000(2) RE35 000(1) OE

81 000(3)


controlling

Dr Cr interest

R R RShare capital 80 000Retained earnings 20 000Revaluation reserve 100 000Goodwill nil

Investment in S Ltd 140 000Non-controlling interest 60 000 60 000

Elimination of shareholders' equity of S Ltd atacquisition

Retained earnings 6 000Non-controlling interest 6 000 6 000

Recording of non-controlling interest in S Ltd forthe period 1 May 19.2 to 31 December 19.6

Revaluation reserve 15 000Non-controlling interest 15 000 15 000

Recording of non-controlling interest in therevaluation reserve of S Ltd for the period1 May 19.2 to 31 December 19.6

Loan Ð H Ltd 100 000Loan Ð S Ltd 100 000

Elimination of intercompany loans 81 000(a)

95ACN202R/1

!

!

7.4 UNREALISED PROFIT IN TRADING INVENTORIES

As we said previously, the purpose of consolidated annual financial statements is to offer the

shareholders of the group annual financial statements after the elimination of all intercompany

transactions.

Profits or losses on a transaction which did not take place with a person or company outside

the group should be eliminated.

H Ltd ? S Ltd ? X Ltd

Suppose H Ltd sells inventories to S Ltd at a cost price of R1 000 plus 20% profit. S Ltd packs

the inventories and sells them to X Ltd, a company outside the group, at R1 500.

The following situation may arise:

. All the inventories have been sold to X Ltd by the end of the year Ð no change to the

consolidated annual statements.

. If no inventories have been sold to X Ltd, the unrealised profit of R200

(20% 6 R1 000) should be eliminated in H Ltd's books and the inventories on S

Ltd's books should also be adjusted.

. If half the inventories have been sold, R100 should be eliminated.

A very important aspect of consolidations is that you must start by determining which company

is selling the inventories and which company is buying them.

H Ltd

sells to

S Ltd

If H Ltd sells inventories to S Ltd, the profit is made by H Ltd and no adjustment to non-

controlling shareholders is necessary.

H Ltd

sells to

S Ltd

If S Ltd sells inventories to H Ltd, the profit is made by S Ltd and the non-controlling

shareholders' interest must be adjusted by their percentage shareholding in the profit/loss.

(This adjustment is made in the analysis of the shareholders' equity.)

Note:Note: Unrealised profits/losses have income tax implications, but for the purpose of thisUnrealised profits/losses have income tax implications, but for the purpose of this

module it must be ignored. This section will be dealt with on third-year level.module it must be ignored. This section will be dealt with on third-year level.

96ACN202R/1

Example 1

Parent sells inventories to subsidiary

The following are the trial balances of A Ltd and its subsidiary B Ltd at 31 December 19.8:

A Ltd B Ltd

R R

Issued capital Ð Ordinary shares of R1 each (200 000) (100 000)

Retained earnings Ð 1 January 19.8 (120 000) (80 000)

Profit before tax (80 000) (60 000)

Investment in B Ltd Ð 80 000 ordinary shares of R1 each








1. A Ltd acquired its interest in B Ltd at the time of incorporation of B Ltd.

2. B Ltd purchased all its inventories from A Ltd at cost price plus 25%. The inventories on B

Ltd's books amounted to R20 000 at 1 January 19.8.

3. A Ltd's total sales to B Ltd during 19.8 amounted to R100 000.

REQUIRED

Draft the consolidated annual financial statements of A Ltd and its subsidiary for the year

ended 31 December 19.8.



ASSETS R

Non-current assets



Inventories [50 000 + 30 000 7 (30 000 6 25125 )] 74 000









Current liabilities



97ACN202R/1



R


[80 000 + 60 000 7 100 000 (sales) + 100 000 (purchases) 7(30 000 6 25

125 ) + (20 000 6 25125 )]







Non-controlling interest(3)/(b) ( 8 000)

88 000




88 000




the parent control-



R R R R R

Balance at 31 December 19.7 200 000 180 000* 380 000 36 000(a) 416 000



* [120 000 7 (20 000 6 25125 ) + 64 000(1)]

98ACN202R/1

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-con-trollinginterest

80% 20%

R R R RAt acquisitionShare capital 100 000 80 000 20 000Investment in B Ltd 80 000

NIL

Since acquisition to beginningof current year

Retained earnings 80 000 64 000(1) 16 000Current yearProfit for the year (60 000 ± 20 000) 40 000 32 000 8 000(3)

220 000 96 800(b) 44 000(3)


controlling

Dr Cr interest

R R RShare capital 100 000Goodwill NIL

Investment in B Ltd 80 000Non-controlling interest 20 000 20 000

Elimination of shareholders' equity of B Ltdat acquisition


Recording of non-controlling interest in B Ltd forthe period ended 31 December 19.7 36 000(a)

Non-controlling interest (SCI) 8 000Non-controlling interest (SFP) 8 000 8 000(b)

Recording of non-controlling interest in profitafter tax

Income Ð sales (A Ltd) 100 000Cost of sales (B Ltd) 100 000

Elimination of intercompany sales

Cost of sales (A Ltd) 6 000Inventory (B Ltd) 6 000

Elimination of unrealised intercompanyprofit included in closing inventory ofB Ltd (30 000 6 25

125 )

Retained earnings (A Ltd) 4 000Cost of sales (A Ltd) 4 000

Elimination of unrealised intercompanyprofit included in opening inventory ofB Ltd (20 000 6 25

125 ) 44 000(c)

99ACN202R/1

COMMENTS

. Note that in this example the parent sold inventories to the subsidiary. The unrealised

profit was therefore included in the profit of A Ltd and consequently there were no

adjustments in the analysis of shareholders' equity, but only in the consolidated

statement of comprehensive income.

. Also note that sales and cost of sales are not in all questions part of the given

information. All adjustments must then be made against profit before tax.

Example 2

Subsidiary sells inventories to parent

The following are the trial balances of D Ltd and its subsidiary E Ltd at 31 December 19.8:

D Ltd E Ltd

R R

Issued capital Ð Ordinary shares of R1 each (200 000) (100 000)

Retained earnings Ð 1 January 19.8 (120 000) (80 000)

Profit before tax (80 000) (60 000)

Investment in E Ltd Ð 80 000 ordinary shares of R1 each








1. D Ltd acquired its interest in E Ltd at the time of incorporation of E Ltd.

2. D Ltd purchased all its inventories from E Ltd at cost price plus 25%. The inventories on D

Ltd's books at 1 January 19.8 amounted to R40 000.

3. Total sales of E Ltd to D Ltd amounted to R100 000 during 19.8.

REQUIRED

Draft the consolidated annual financial statements of D Ltd and its subsidiary for the year


100ACN202R/1

D LTD AND ITS SUBSIDIARY


ASSETS R

Non-current assets



Inventories [50 000 + 30 000 7 (50 000 6 25125 )] 70 000









Current liabilities





R


[80 000 + 60 000 7 100 000 (sales) + 100 000 (purchases) 7(50 000 6 25

125 ) + (40 000 6 25125 )]







Non-controlling interest(3)/(b) (7 600)

88 000




88 000

101ACN202R/1




the parent control-



R R R R R




* (120 000 + 57 600(1))

Calculations

1. Analysis of shareholders equity of E Ltd

A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%

R R R RAt acquisitionShare capital 100 000 80 000 20 000Investment in B Ltd 80 000

NIL


Retained earnings[80 000 ± (40 000 x 25

125 )]72 000 57 600(1) 14 400

Current yearProfit for the year [60 000 7 20 000+ (40 000 6 25

125 ) 7 (50 000 6 25125 )]

38 000 30 400 7 600(3)

210 000 88 000 42 000(3)

102ACN202R/1

2. Journal entries

Non-

controlling

Dr Cr interest

R R R


Goodwill NIL

Investment in E Ltd 80 000


Elimination of shareholders' equity

of E Ltd at acquisition



Recording of non-controlling interest

in E Ltd for the period ended

31 December 19.7 34 400(a)




after tax

Income Ð Sales (E Ltd) 100 000

Cost of sales (D Ltd) 100 000


Cost of sales (E Ltd) 10 000

Inventory (D Ltd) 10 000

Elimination of unrealised intercompany profit

included in closing inventory of D Ltd

(50 000 6 25125 )

Retained earnings (E Ltd) 8 000

Cost of sales (E Ltd) 8 000


included in opening inventory of D Ltd

(40 000 6 25125 )

42 000(c)

COMMENTS

. Since the subsidiary in this example has sold the inventories, the adjustments in

respect of unrealised profit should also be brought into account in the analysis of

shareholders' equity.

. You will probably have realised for yourself that there is a quick test one can do to see

whether the analysis of shareholders' equity balances.

Ð To see whether the columns have been correctly added up we can say:

80 000 (At acquisition)

88 000 (Since acquisition)

42 000 (Non-controlling interest)

R210 000 (Total)

103ACN202R/1

Ð To see whether the non-controlling interest column has been correctly calculated, we

can say:

Total = R210 000

Non-controlling interest = 20%

Therefore the non-controlling interest column must be equal to

R210 000 6 20% = R42 000.

7.5 PROPERTY, PLANT AND EQUIPMENT HELD BYCOMPANIES IN THE GROUP

Any profit realised when an asset belonging to one company in the group is sold to another

company in the group should be eliminated. The company which purchased the asset is,

however, still providing too much depreciation because the profit is included in the cost price of

the asset in its books. This portion of the depreciation should be written back for consolidation

purposes.

This unrealised profit on assets is realised by the sale of the asset to an outsider as well as

through the process of depreciation. The annual depreciation includes a portion of the

unrealised profit. The unrealised profit is therefore realised through the use of the asset.

Four situations may arise where assets are sold within a group:

. The parent sells non-depreciable assets to the subsidiary.

. The subsidiary sells non-depreciable assets to the parent.

. The parent sells depreciable assets to the subsidiary.

. The subsidiary sells depreciable assets to the parent.

Note:Note: Unrealised profits/losses have income tax implications, but for the purpose of thisUnrealised profits/losses have income tax implications, but for the purpose of this

module it must be ignored. This section will be dealt with on third-year level.module it must be ignored. This section will be dealt with on third-year level.

Make a thorough study of the following examples which provide a detailed explanation of the

aspect of the sale of assets within a group.

104ACN202R/1

Example 1

Parent sells non-depreciable asset to subsidiary

The following represent the abridged statements of D Ltd and its subsidiary E Ltd at

31 December 19.9:


D Ltd E LtdR R

ASSETSProperty, plant and equipment 180 000 150 000Investment in E Ltd Ð 70 000

ordinary shares of R1 each at fair value(cost price: R77 000) 77 000 Ð

Current assets 20 000 32 000277 000 182 000

EQUITY AND LIABILITIESIssued capital Ð Ordinary shares of R1 each 200 000 100 000Retained earnings 29 000 37 000Current liabilities 48 000 45 000

277 000 182 000


D Ltd E Ltd

R R








D Ltd E Ltd D Ltd E Ltd D Ltd E Ltd

R R R R R R





1. D Ltd acquired its interest in E Ltd at 1 January 19.7, when E Ltd's retained earningsamounted to R10 000. At the date of acquisition, consider the carrying amount of theassets and liabilities of E Ltd to be equal to the fair value thereof.

2. On 1 January 19.9 E Ltd bought property with a carrying amount of R40 000 from D Ltd. DLtd made a R10 000 profit.

REQUIRED

Draft the consolidated financial statements of D Ltd and its subsidiary for the year ended

31 December 19.9.

105ACN202R/1



R

ASSETS

Non-current assets

Property, plant and equipment (180 000 + 150 000 7 10 000 profit) 320 000

Current assets (20 000 + 32 000) 52 000












R

Profit before tax (20 000 + 30 000 7 10 000 profit) 40 000Income tax expense (6 000 + 9 000) (15 000)

Profit for the year 25 000Other comprehensive income ÐTotal comprehensive income for the year 25 000

Profit attributable to:Owners of the parent (25 000 ± 6 300) 18 700Non-controlling interest(1)/(b) (6 300)

25 000Total comprehensive income attributable to:

Owners of the parent 18 700Non-controlling interest 6 300

25 000




the parent control-



R R R R R




* (15 000 + 4 200(2))Calculations

106ACN202R/1

1. Analysis of shareholders equity of E Ltd

D Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

70% 30%

R R R RAt acquisitionShare capital 100 000 70 000 30 000Retained earnings 10 000 7 000 3 000

110 000 77 000 33 000(a)

77 000

NIL


Retained earnings(16 000 ± 10 000 at acquisition)

6 000 4 200(2) 1 800(1)

Current yearProfit for the year 21 000 14 700 6 300(1)

137 000 18 900 41 100(3)

2. Journal entries

Non-

controlling

Dr Cr interest

R R R



Goodwill NIL



Elimination of shareholders' equity of E Ltd at

acquisition



Recording of non-controlling interest in E Ltd

for the period ended 31 December 19.8

34 800(a)




after tax

Profit on sale of property (D Ltd) 10 000

Property (E Ltd) 10 000


included in E Ltd's property

41 100(c)

107ACN202R/1

Example 2

Subsidiary sells non-depreciable asset to parent

The following represent the abridged statements of Q Ltd and its subsidiary R Ltd at

31 December 19.9:


Q Ltd R Ltd

R R

ASSETS


Investment in R Ltd Ð 70 000 ordinary shares

of R1 each at fair value (cost price: R77 000) 77 000 Ð


277 000 182 000





277 000 182 000


Q Ltd R Ltd

R R








Q Ltd R Ltd Q Ltd R Ltd Q Ltd R Ltd

R R R R R R





1. Q Ltd acquired its interest in R Ltd at 1 January 19.7, when R Ltd's retained earnings

amounted to R10 000. At the date of acquisition, consider the carrying amount of the

assets and liabilities of R Ltd to be equal to the fair value thereof.

2. On 1 January 19.8 Q Ltd bought property with a carrying amount of R40 000 from R Ltd.

R Ltd made a R10 000 profit.

108ACN202R/1

REQUIRED

Draft the consolidated financial statements of Q Ltd and its subsidiary for the year


Q LTD AND ITS SUBSIDIARY


R

ASSETS

Non-current assets

Property, plant and equipment (180 000 + 150 000 7 10 000 profit) 320 000

Current assets (20 000 + 32 000) 52 000












R









35 000




35 000

109ACN202R/1


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31DECEMBER 19.9


the parent control-



R R R R R




* (15 000 Ð 2 800(2))

Calculations

1. Analysis of shareholders equity of R Ltd

Q Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

70% 30%


110 000 77 000 33 000

Investment in R Ltd 77 000

NIL


Retained earnings(16 000 ± 10 000 at acquisition± R10 000 profit))

(4 000) (2 800)(2) 1 200)


127 000 11 900 38 100(3)

110ACN202R/1

2. Journal entries Non-

controlling

Dr Cr interest

R R R



Goodwill NIL

Investment in R Ltd 77 000



R Ltd at acquisition

Non-controlling interest 1 200 (1 200)



in R Ltd for the period ended

31 December 19.8

31 800(a)




after tax

Retained earnings Ð beginning of year (R

Ltd)

10 000

Property (Q Ltd) 10 000


included in Q Ltd's property

38 100(c)

Example 3

Parent sells depreciable asset to subsidiary

The following represent the condensed statements of A Ltd and its subsidiary B Ltd at 31

December 19.9:


A Ltd B Ltd

R R

ASSETS

Investment in B Ltd Ð 16 000 ordinary shares of R1 each


Machinery 8 000 16 000

Cost price 14 000 20 000

Accumulated depreciation (6 000) (4 000)


80 000 35 000




80 000 35 000

111ACN202R/1


A Ltd B Ltd

R R

Gross profit 20 000 10 000

Depreciation (3 000) (2 000)









R R R R R R





1. A Ltd acquired its interest in B Ltd at 1 January 19.7 when B Ltd's retained earnings

amounted to R5 000. At the date of acquisition, consider the carrying amount of the assets

and liabilities of B Ltd to be equal to the fair value thereof.

2. At 1 January 19.8 B Ltd purchased all its machinery from A Ltd at cost price plus 3313 %.

3. Both companies write off depreciation on machinery at 10% per annum according to the

straight-line method.

REQUIRED

Draft the consolidated financial statements of A Ltd and its subsidiary for the year




R

ASSETS

Non-current assets

Machinery [(14 000 + 20 000 ± 5 000) ± (6 000 + 4 000 ± 500 ± 500)] 20 000

Current assets (52 000 + 19 000) 71 000

Total assets 91 000


Total equity 91 000






112ACN202R/1



Notes R

Gross profit (20 000 + 10 000) 30 000

Administrative expenses (3 000 + 2 000 7 500) (4 500)








Non-controlling interest(1)/(b) 1 200

18 500




18 500



R



Expenses

Depreciation (3 000 + 2 000 ± 500) 4 500




the parent control-



R R R R R


(calculation 3)



113ACN202R/1

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%


25 000 20 000 5 000


NIL



4 000 3 200(2) 800


35 000 8 000 7 000(3)

2. Depreciation

R

Profit from sale of machinery (20 000 6 33,3/133,3) 5 000

Depreciation Ð 19.8 (5 000 6 10%) 500

Ð 19.9 (5 000 6 10%) 500

Depreciation up to 31 December 19.9 which has to be adjusted 1 000

3. Retained earnings beginning of year

Retained earnings of B Ltd(2) 3 200

Retained earnings of A Ltd 13 500

Given 18 000

Profit on sale of machinery (5 000)

Depreciation realised in respect of 19.8 500

16 700

114ACN202R/1

4. Journal entries

Non-

controlling

Dr Cr interest

R R R



Goodwill NIL





Retained earnings 800



B Ltd for the period ended 31 December 19.8

5 800(a)




for the year

Retained earnings Ð A Ltd 5 000

Machinery Ð B Ltd 5 000


included in B Ltd's assets

Accumulated depreciation Ð B Ltd 1 000

Depreciation Ð A Ltd 500

Retained earnings Ð A Ltd 500

Elimination of depreciation associated with

the sale of the asset

7 000(c)

115ACN202R/1

Example 4

Subsidiary sells depreciable asset to parent

The following represent the condensed statements of X Ltd and its subsidiary Y Ltd at 30

June 19.9:

STATEMENTS OF FINANCIAL POSITION AS AT 30 JUNE 19.9

X Ltd Y Ltd

R RASSETS

Investment in Y Ltd Ð 15 000 ordinary shares of R1 each


Machinery 8 000 16 000

Cost price 14 000 20 000



80 000 35 000




80 000 35 000


X Ltd Y Ltd

R R


Depreciation (3 000) (2 000)








X Ltd Y Ltd X Ltd Y Ltd X Ltd Y Ltd

R R R R R R

Balance at 30 June 19.8 50 000 20 000 18 000 9 000 68 000 29 000


Balance at 30 June 19.9 50 000 20 000 30 000 15 000 80 000 35 000


1. X Ltd acquired its interest in Y Ltd at 1 January 19.6 when Y Ltd's retained earnings


and liabilities of Y Ltd to be equal to the fair value thereof.

2. At 1 January 19.8 X Ltd purchased all its machinery from Y Ltd at cost price plus 25%.

3. Both companies write off depreciation on machinery at 20% per annum according to the

straight-line method.

116ACN202R/1

REQUIRED

Draft the consolidated financial statements of X Ltd and its subsidiary for the year ended

30 June 19.9.



ASSETS R

Non-current assets

Machinery [(14 000 + 20 000 ± 2 800) ± (6 000 + 4 000 ± 840)] 22 040

Current assets (52 500 + 19 000) 71 500

Total assets 93 540


Total equity 93 540








Notes R

Gross profit (20 000 + 10 000) 30 000

Administrative expenses (3 000 + 2 000 7 560) (4 440)







Owners of the parent (18 560 ± 1 640) 16 920)


18 560




18 560

117ACN202R/1

X LTD AND ITS SUBSIDIARYNOTES FOR THE YEAR ENDED 30 JUNE 19.9

R



Expenses

Depreciation (3 000 + 2 000 ± 560) 4 440


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30JUNE 19.9


the parent control-



R R R R R

Balance at 30 June 19.8 50 000 18 360* 68 360 6 620(a) 74 980


Balance at 30 June 19.9 50 000 35 280 85 280 8 260(c) 93 540

* (18 000 + 360(2))

Calculations


X Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

75% 25%


26 000 19 500 6 500

Investement in Y Ltd 19 500

NIL


Retained earnings[9 000 ± 6 000 ± 2 800 (profit)+ 280 (depreciation)]

480 360 120


33 040 5 280 8 260(3)

118ACN202R/1

2. Depreciation

R

Profit on the sale of machinery (14 000 6 25125 ) 2 800

Depreciation Ð 1/1/19.8 7 30/6/19.8 (6 months)

2 800 6 20% 6 612 280

Ð 1/7/19.8 7 30/6/19.9 (12 months)

2 800 6 20% 560

Depreciation for 18 months up to 30 June 19.9 for which an

adjustment has to be made 840

3. Journal entries

Non-

controlling

Dr Cr interest

R R R



Goodwill NIL




Y Ltd at acquisition

Retained earnings Ð Y Ltd 2 800

Machinery Ð X Ltd 2 800


on sale of machinery

Accumulated depreciation Ð X Ltd 840

Depreciation Ð Y Ltd 560

Retained earnings Ð Y Ltd 280


the sale of the machinery

Retained earnings 120



Y Ltd for the period ended 30 June 19.8

6 620(a)




after tax

8 260(c)

7.6 EXERCISES

As you should by now have mastered all the different aspects of consolidated annual financial

statements, you will find that the questions in the exercises become more integrated in the

sense that more and more sections of the work are included in the individual questions. It is

therefore very important that you should work through each question on your own before

comparing your own solution with our proposed solution.

119ACN202R/1

Question 1

The trial balances of A Ltd and B Ltd at 30 June 19.8 are submitted to you:

A Ltd B Ltd

R RDebits


Ð Land and buildings 574 000 408 200

Ð Motor vehicles 155 000 97 000

Investment in B Ltd


(cost price: R290 000) 290 000 Ð

Ð Unsecured loan at fair value 40 000 Ð



Bank Ð 10 600

Bills receivable Ð B Ltd 8 000 Ð

1 198 200 607 200

Credits



Revaluation of land and buildings Ð 100 000

Long-term borrowing Ð A Ltd Ð 35 000



Accumulated depreciation Ð motor vehicles 130 000 64 000

Bills payable Ð A Ltd Ð 10 000

1 198 200 607 200


1. A Ltd acquired its interest in B Ltd at 1 July 19.5 when B Ltd's retained earnings was

R72 000.

2. At the date of acquisition A Ltd valued the land and buildings belonging to B Ltd, which had

a carrying amount of R308 200, at R368 200. It is company policy to revalue B Ltd's land

and buildings every two years, at 30 June. Since 1 July 19.5 B Ltd has not purchased or

sold any land or buildings. At the date of acquisition, consider the carrying amount of the

assets and liabilities of B Ltd to be equal to the fair value thereof.

3. A Ltd discounted R2 000 of the bills receivable from B Ltd at the bank before the expiry

date, 6 July 19.8.

4. Since A Ltd acquired its interest in B Ltd, A Ltd purchased all its inventories from B Ltd. B

Ltd supplied the inventories at cost price plus 25% profit. Inventories on hand of A Ltd and

B Ltd at 1 July 19.7 amounted respectively to R36 000 and R48 000.

5. At 29 June 19.8, B Ltd repaid R5 000 of the existing loan from A Ltd. A Ltd received this

repayment on 3 July 19.8.

120ACN202R/1

REQUIRED

Draft the consolidated statement of financial position of A Ltd and its subsidiary as at 30

June 19.8 in accordance with the specific requirements of the Companies Act, 1973 and

Generally Accepted Accounting Practice. (Ignore taxation on unrealised profits and/or

losses. Comparative figures are not required.)

Question 2

The following represent the condensed statements of comprehensive income and statements

of changes in equity of G Ltd and its subsidiary L Ltd for the year ended 28 February 19.8:

STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEAR ENDED28 FEBRUARY 19.8

G Ltd L Ltd

R R

Gross profit 484 680 326 300

Other income

Ð Interest received 35 750 12 500

Ð Administration fees received 24 000 12 000

544 430 350 800

Expenses (270 900) (221 650)

Ð Depreciation 158 000 134 400

Ð Staff cost 60 000 48 000

Ð Interest paid 28 500 24 650

Ð Auditors' remuneration 12 400 8 600

Ð Administration fees paid 12 000 6 000






STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED28 FEBRUARY 19.8

Revaluation of Retained

Share capital property earnings Total

G Ltd L Ltd G Ltd L Ltd G Ltd L Ltd G Ltd L Ltd

R R R R R R R R

Balance at 28 February 19.7 200 000 100 000 80 000 120 000 224 690 44 000 504 690 264 000


Balance at 28 February 19.8 200 000 100 000 80 000 120 000 356 808 108 690 636 808 328 690

121ACN202R/1


1. G Ltd acquired 80% of the voting rights in L Ltd at 1 March 19.5 for R250 000, at which

point L Ltd's shareholders' interest consisted of the following:

R



Revaluation of property 120 000

At the date of acquisition, consider the carrying amount of the assets and liabilities of L Ltd


2. At 1 December 19.6 L Ltd sold a machine with a carrying amount of R200 000 to G Ltd at a

profit of R50 000. The policy of the group is to write off plant and machinery over five years

according to the straight-line method.

3. G Ltd sold some of its inventories to L Ltd at a profit of 50% on cost price. L Ltd had the

following inventories, purchased from G Ltd, on hand:

R

28 February 19.7 210 000

28 February 19.8 315 000

4. G Ltd lent L Ltd the sum of R150 000 on 1 August 19.7 at an interest rate of 18%. G Ltd

received and banked the cheque for interest for the month in question on 28 February 19.8.

REQUIRED


statement of changes in equity for G Ltd and its subsidiary for the year ended 28

February 19.8 in accordance with the specific requirements of the Companies Act,

1973 and Generally Accepted Accounting Practice. (Ignore taxation on unrealised

profits and/or losses. Do all calculations to the nearest rand.)

Solut ion

Quest ion 1



RASSETSNon-current assets 1 097 800

Property, plant and equipment [(574 000 + 408 200) +(155 000 + 97 000) ± (130 000 + 64 000)] 1 040 200

Goodwill 57 600


Inventories (45 000 + 72 000 ± 9 000) 108 000Trade and other receivables (86 200 + 19 400) 105 600Cash and cash equivalents 10 600


122ACN202R/1

EQUITY AND LIABILITIESTotal equity 1 209 200

Equity attributable to owners of the parent 1 080 620Share capital 800 000Other components of equity 28 000Retained earnings (213 000 + 39 620) 252 620

Non-controlling interest(a) 128 580Current liabilities 112 800

Trade and other payables [41 000 + 60 600 + (10 000 ± 8 000)] 103 600Bank overdraft (14 200 ± 5 000) 9 200


Calculations


A Ltd 70%Non-

control-

TotalAt

acquisitionSince

acquisitionling inter-est 30%


Share capital 200 000 140 000 60 000

Retained earnings 1/10/20.1 72 000 50 400 21 600

Revaluation reserve

(368 200 ± 308 200)

60 000 42 000 18 000

332 000 232 400 99 600


Goodwill 57 600


Revaluation reserve(R408 200 ± 368 200)

Retained earnings 137 600At acquisition (72 000)

65 600

40 000 28 000 OE 12 000

Unreleased profit

± closing inventories (9 000) 56 600 39 620 RE 16 980

428 600

28 000 OE

39 620 RE 128 580

123ACN202R/1

2. Journal entries

Non-

controlling

Dr Cr interest

R R R

Land and buildings Ð B Ltd 60 000

Revaluation reserve Ð B Ltd 60 000

Recording of the revaluation of land and

buildings of B Ltd




Goodwill 57 600





Land and buildings Ð B Ltd 40 000



buildings of B Ltd


Non-controlling interest (SFP) 12 000 12 000

Recording of non-controlling interest in re-

valuation reserve




B Ltd for the period ended 30 June 19.8

Bills payable Ð A Ltd 8 000

Bills receivable Ð B Ltd 8 000

Elimination of intercompany bills

Gross profit Ð B Ltd 9 000

Inventories Ð A Ltd (45 000 6 25125 ) 9 000

Elimination of unrealised profits in closing

inventory

Cash in transit 5 000

Unsecured loan to B Ltd 5 000

Recording of cash in transit

Long-term loan Ð A Ltd 35 000

Unsecured loan to B Ltd 35 000


128 580(a)

124ACN202R/1

COMMENTS

. A Ltd holds 70 000 of the R2 shares in B Ltd, or R140 000 of the share capital of

R200 000.

R140 000

R200 000= 70%

R

. Current value of land and buildings 408 200

Valuation value at 1 July 19.5 (368 200)

Valuation of land and buildings since acquisition 40 000

. In additional information 4 you were given A Ltd and B Ltd's inventories on hand at

1 July 19.7. This information is irrelevant, however, since we did not ask you to

draft an statement of comprehensive income.

Solut ion

Quest ion 2

G LTD AND ITS SUBSIDIARY

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME FOR THEYEAR ENDED 28 FEBRUARY 19.8

NoteR

Gross profit (calculation 1) 775 980

Other income [35 750 + 12 500 7 (150 000 6 712 6 18%)

+ 24 000 + 12 000)] 68 500

Administrative expenses [158 000 + 134 400 7 (50 000 6 20%)

+ 60 000 + 48 000 + 12 400 + 8 600 + 12 000 + 6 000] (429 400)

Finance cost [28 500 + 24 650 ± (150 000 6 712 6 18%)] (37 400)







Owners of the parent (171 808 ± 14 938) 156 870)

Non-controlling interest (calculation 2) 14 938

171 808




171 808

125ACN202R/1


NOTES FOR THE YEAR ENDED 28 FEBRUARY 19.8


R


Income

Interest received [35 750 + 12 500 ± (150 000 6 712 6 18%)] 32 500

Administration fees received (24 000 + 12 000) 36 000

Expenses

Depreciation [158 000 + 134 400 ± (50 000 6 20%)] 282 400

Staff cost (60 000 + 48 000) 108 000


Administration fees paid (12 000 + 6 000) 18 000


CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED28 FEBRUARY 19.8

Attributable to owners of the parent Non-

Share Revaluation Retained Total controlling Total

capital surplus earnings interest equity

R R R R R R

Balance at 28 February 19.7 200 000 80 000 100 690(3) 380 690 43 300(a) 423 990


Balance at 28 February 19.8 200 000 80 000 257 560 537 560 58 238(c) 595 798

(3) 224 690 ± 54 000(d) ± 70 000(1)

Calculations

1. Gross profit R

G Ltd 484 680

Unrealised profit in opening inventories ( 50150 6 210 000) 70 000

Unrealised profit in closing inventories ( 50150 6 315 000) (105 000)

L Ltd 326 300

775 980

126ACN202R/1


G Ltd 80%Non-

controlling

TotalAt

acquisitionSince

acquisitioninterest

20%


Share capital 100 000 80 000 20 000



284 000 227 200 56 800(a)


Goodwill 22 800

Since acquisition to beginning of

current year

Retained earnings (67 500) (54 000)(d) (13 500)(a)

Given (44 000 ± 64 000) (20 000)

Unrealised profit on machinery (50 000)

Depreciation adjustment

(50 000 6 20% 6 312 )

2 500

Current year

Profit for the year 74 690 59 752 14 938(b)

Given 64 690

Excess depreciation

(50 000 6 20)

10 000

291 190 5 752 58 238(c)

127ACN202R/1


controlling

Dr Cr interest

R R R




Goodwill 22 800




L Ltd at acquisition

Retained earnings Ð L Ltd 50 000

Machinery Ð G Ltd 50 000

Elimination of intercompany profit on sale of

machinery

Accumulated depreciation Ð G Ltd 2 500

Retained earnings Ð L Ltd 2 500


sale of machinery for the period ended 28

February 19.7

Accumulated depreciation Ð G Ltd 10 000

Depreciation Ð L Ltd 10 000


sale of machinery for the current year

Cost of sales Ð G Ltd 105 000

Inventory Ð L Ltd 105 000

Elimination of unrealisal profits in closing

inventories

Retained earnings Ð G Ltd 70 000

Cost of sales Ð G Ltd 70 000

Elimination of unrealisal profits in opening

inventories




L Ltd for the period ended

28 February 19.7

43 300(a)




L Ltd for the current year

Loan from G Ltd 150 000

Loan to L Ltd 150 000


Interest received Ð G Ltd 15 750

Interest paid Ð L Ltd 15 750

Elimination of intercompany interest on loan

58 238(c)

128ACN202R/1

COMMENTS

. If depreciation is written off over five years by using the straight-line method, this means

that in reality the depreciation rate is 20%.

100% 7 5 = 20% per annum

SELF -ASSESSMENT


. record intercompany bills of exchange and bank overdrafts correctly in consolidated

annual financial statements?

. determine the reserve when revaluing property at acquisition of an interest in a

subsidiary?

. calculate the unrealised profit in trading inventories in both the parent and

subsidiary?


. draft the consolidated annual financial statements of a group if sales of property,

plant and equipment have taken place between companies in the group?

129ACN202R/1

STUDY UNIT

8Treatment of dividends duringconsolidation

Learning outcome

Learners can record any ordinary dividend declared or paid by a subsidiary inconsolidated financial statements.

OVERVIEW


Key concepts 130


8.1 Introduction 131

8.2 Dividends paid or declared by subsidiary 131

8.3 Dividends distributed by subsidiary from pre-acquisition orpost-acquisition profits 149

8.4 Exercises 149

Solutions 152

Self-assessment 158

KEY CONCEPTS

. Dividends from pre-acquisition profits

. Dividends from post-acquisition profits

ASSESSMENT CRITERIA


. calculate any ordinary dividend declared or paid by a subsidiary correctly in

consolidated annual financial statements

. record any ordinary dividend declared or paid by a subsidiary correctly in



130ACN202R/1

8.1 INTRODUCTION

Dividends paid and/or declared in the consolidated statement of changes in equity will always

merely be the dividends payable to the shareholders of the parent. All dividends paid and/or

declared by the subsidiary are eliminated. This principle is in accordance with the basic

consolidation principle, namely that consolidated annual financial statements should be

compiled after all intercompany transactions have been eliminated.

Non-controlling shareholders share in the subsidiary's profit before the payment of dividends.

Therefore, if a dividend is paid by a subsidiary, it means that the non-controlling shareholders

have realised part of their interest in the profit in the form of a dividend. This will cause a

reduction in the balance of the non-controlling interest in the consolidated statement of financial

position.

8.2 DIVIDENDS PAID OR DECLARED BY SUBSIDIARY

The following are the five situations which most frequently occur with regard to dividends in

consolidated annual financial statements:

. subsidiary has made no provision and does not wish to create any provision for dividends

. subsidiary has paid a dividend to its shareholders

. subsidiary has made provision for dividend declared and parent has made provision for the

appropriate dividend receivable

. subsidiary has made provision for dividend declared but parent has made no provision for

the appropriate dividend receivable

. provision must be made by the subsidiary for a dividend declared

Work carefully through the following five examples which will explain the five situations in more

detail.

Example 1

No dividends paid or declared by the subsidiary

The following represents the abridged financial statements of A Ltd and its subsidiary B Ltd:

STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 19.9

A Ltd B Ltd

ASSETS R R


Investment in B Ltd Ð 80 000 shares at fair value

(cost price: R88 000) 88 000 Ð


Current account: B Ltd 10 000 Ð

456 000 206 000




Current account: A Ltd Ð 10 000


456 000 206 000

131ACN202R/1


A Ltd B Ltd

R R









R R R R R R



Ordinary dividend (15 000) Ð (15 000) Ð


A Ltd acquired its interest in B Ltd on 1 January 19.7 when the retained earnings of B Ltd

amounted to R10 000.



If we must draft the consolidated financial statements, we shall do it as follows:

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%


Investment in B Ltd 110 000 88 000 22 000

88 000

NIL



5 000 4 000(2) 1 000


138 000 22 400 27 600(3)

132ACN202R/1

2. Journal entries

Non-

controlling

Dr Cr interest

R R R



Goodwill NIL








in B Ltd for the period ended

31 December 19.8 23 000(a)




B Ltd for the current year

Current account: A Limited 10 000

Current account: B Limited 10 000

Elimination of common items

27 600(c)



R

ASSETS

Non-current assets


Current assets









Current liabilities



133ACN202R/1



R







Owners of the parent (74 000 ± 4 600) ( 69 400

Non-controlling interest (1)/(b) 4 600

74 000




74 000




the parent control-



R R R R R



Ordinary dividend (15 000) (15 000) Ð (15 000)


* (84 000 + 4 000(2))

134ACN202R/1

Example 2

Dividends paid by subsidiary


STATEMENTS OF FINANCIAL POSITION AT 31 DECEMBER 19.9

A Ltd B Ltd

ASSETS R R



(cost price: R88 000) 88 000 Ð



456 000 206 000






456 000 206 000


A Ltd B Ltd

R R

Gross profit 73 000










R R R R R R









If we draft the consolidated financial statements, we shall do it as follows:

135ACN202R/1

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%



88 000

NIL



5 000 4 000(2) 1 000

Current year

Profit for the year 23 000 18 400 4 600(1)

Ordinary Dividend (12 000) (9 600) (2 400)

126 000 12 800 25 200(3)


controlling

Dr Cr interest

R R R

Share capital 100 000Retained earnings 10 000Goodwill NIL


Elimination of shareholders' equity ofB Ltd at acquisition


Recording of non-controlling interest inB Ltd for the period ended31 December 19.8 23 000(a)


Recording of non-controlling interest inB Ltd for the current year

Dividends received (A Ltd) 9 600Non-controlling interest 2 400 (2 400)(c)

Dividends paid (B Ltd) 12 000Elimination of intercompany dividend

Current account: A Ltd 10 000Current account: B Ltd 10 000

Elimination of common items25 200(d)

136ACN202R/1



R

ASSETS

Non-current assets


Current assets









Current liabilities





R









74 000




74 000

137ACN202R/1




the parent control-



R R R R R



Ordinary dividend (15 000) (15 000) (2 400)(c) (17 400)


* (84 000 + 4 000(2))

Example 3

Parent made provision for dividend declared by subsidiary



A Ltd B Ltd

ASSETS R R



(cost price: R88 000) 88 000 Ð



465 600 206 000






Dividends payable Ð 12 000

465 600 206 000


A Ltd B Ltd

R R






138ACN202R/1




R R R R R R










Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%



88 000

NIL



5 000 4 000(2) 1 000

Current year


Ordinary dividend (12 000) (9 600) (2 400)

126 000 12 800 25 200(3)

139ACN202R/1


controlling

Dr Cr interest

R R R

Share capital 100 000Retained earnings 10 000Goodwill NIL




Recording of non-controlling interest inB Ltd for the period ended31 December 19.8

23 000(a)


Recording of non-controlling interest in B Ltdfor the current year

Dividend received (A Ltd) 9 600Non-controlling interest 2 400 (2 400)(c)

Dividend paid (B Ltd) 12 000Elimination of intercompany dividend

Dividends payable 9 600Current account: A Ltd 9 600

Transfer of relevant share of dividend due byB Ltd to the current account of A Ltd



25 200(d)



RASSETS

Non-current assets


Current assets










Dividends payable (12 000 ± 9 600) 2 400



140ACN202R/1



R

Profit before tax (82 600 ± 9 600 + 33 000) 106 000








74 000




74 000




the parent control-



R R R R R





* (84 000 + 4 000(2))

141ACN202R/1

Example 4

No provision for dividend by parent



ASSETS R R



(cost price: R88 000) 88 000 Ð



456 000 206 000







456 000 206 000


A Ltd B Ltd

R R









R R R R R R










142ACN202R/1

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%



88 000

NIL



5 000 4 000(2) 1 000



126 000 12 800 25 200(3)

2. Journal entries

Non-

controlling

Dr Cr interest

R R R

In the records of A Ltd

Current account: B Ltd 9 600

Dividend received 9 600

Recording of dividend receivable

In consolidated records



Goodwill NIL



Elimination of shareholders' equity of B Ltd

at acquisition



Recording of non-controlling interest in B Ltd for the

period ended 31 December 19.8

23 000(a)

143ACN202R/1

Non-

controlling

Dr Cr interest

R R R



Recording of non-controlling interest in B Ltd for the

current year

Dividend received (A Ltd) 9 600

Non-controlling interest 2 400 (2 400)(c)

Dividend paid (B Ltd) 12 000



Current account: A Ltd 9 600

Transfer of appropriate share of dividend due by

B Ltd to the current account of A Ltd

Current account: A Ltd 19 600

Current account: B Ltd 19 600


25 200(d)



R

ASSETS

Non-current assets


Current assets










Dividends payable (12 000 ± 9 600) 2 400



144ACN202R/1



R







Owners of the parent (74 000 ± 4 600) ( 69 400


74 000




74 000




the parent control-



R R R R R





* (84 000 + 4 000(2))

145ACN202R/1

Example 5

No provision for dividend by subsidiary



ASSETS R R



(cost price: R88 000) 88 000 Ð



456 000 206 000






456 000 206 000


A Ltd B Ltd

R R









R R R R R R



Ordinary dividend (15 000) Ð (15 000) Ð




and liabilities of B Ltd to be equal to the fair value thereof.

On 31 December 19.9 B Ltd decided to declare a dividend of R12 000.


146ACN202R/1

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%


Investment in B Ltd 110 000 88 000 22 00088 000

NIL



5 000 4 000(2) 1 000



126 000 12 800 25 200(3)

Because B Ltd has not yet made provision for the dividend and A Ltd has not yet reacted to it,

we only provide for the dividend owing to the non-controlling shareholders.


controlling

Dr Cr interest

R R RShare capital 100 000Retained earnings 10 000Goodwill NIL




Recording of non-controlling interest inB Ltd for the period ended31 December 19.8 23 000(a)


Recording of non-controlling interest inB Ltd for the current year

Non-controlling interest 2 400 (2 400)(4)(c)

Dividends payable 2 400Provision for dividend payable to non-con-trolling shareholders


Elimination of common items25 200(d)

147ACN202R/1



RASSETS

Non-current assets


Current assets















R









74 000




74 000

148ACN202R/1




the parent control-



R R R R R





* (84 000 + 4 000(2))

8.3 DIVIDENDS DISTRIBUTED BY SUBSIDIARY FROMPRE-ACQUISITION OR POST-ACQUISITION PROFITS

The allocation method (FIFO or LIFO) used by a subsidiary to declare dividends has no

influence on the consolidated annual financial statements. However, if a subsidiary does not

have sufficient post-acquisition profits when a dividend is declared, the parent should treat it as

a capital receipt and reduce the cost of the investment.

Refer to section 4.2 of study unit 4.

8.4 EXERCISES

Do the following two questions for further practice.

Question 1

The following balances were obtained from the books of A Ltd and its subsidiary B Ltd for the

year ended 28 February 19.4:A Ltd B Ltd

R R

Sales 600 000 400 000

Cost of sales 340 000 220 000

Repairs and maintenance 35 000 30 000

Depreciation Ð equipment 18 000 16 000


Interest received on loan to B Ltd 10 000 Ð

Loan from A Ltd Ð 15 000

Loan to B Ltd 20 000 Ð

Staff cost 36 000 24 000

Interest paid 4 000 20 000


Taxation 67 600 32 800


Retained earnings Ð 1 March 19.3 45 000 59 000

Included in cost of sales:

Inventories 1 March 19.3 18 000 18 000

Inventories 28 February 19.4 15 000 20 000


149ACN202R/1


1. On 1 March 19.2 when B Ltd was incorporated, A Ltd acquired 80% of the shares and

voting rights in B Ltd. There was no goodwill payable by A Ltd, and at date of acquisition

the carrying amount of the assets and liabilities were equal to the fair value.

2. Since incorporation A Ltd has bought all its inventories from B Ltd at cost price plus 3313 %.

On 28 February 19.4 inventories to the value of R5 000 were still in transit. B Ltd sold

inventories of R317 000 to A Ltd during the year.

3. On 1 March 19.2 B Ltd sold equipment to A Ltd at a profit of R20 000. Both companies

write off depreciation on equipment at 20% per annum according to the straight-line

method.

4. On 28 February 19.4 A Ltd sold property at a profit of R20 000 to B Ltd. This profit was

included in the sales of the company.

REQUIRED


statement of changes in equity of A Ltd and its subsidiary for the year ended 28

February 19.4 to comply with the requirements of the Companies Act, 1973 and

Generally Accepted Accounting Practice. Show all your calculations and ignore

taxation on unrealised profits and/or losses, as well as capital gains tax.

Question 2

The following represent the condensed statement of comprehensive income and statements of

changes in equity of X Ltd and its subsidiary Y Ltd for the year ended 30 June 19.3:


X Ltd Y Ltd

R R

Gross profit 465 000 329 000

Other income


Interest received Ð trade receivables 5 000 1 000

500 000 330 000

Expenses (200 000) (150 000)


Staff cost 80 000 50 000






150ACN202R/1


Asset replacement Retained

Share capital reserve earnings Total

X Ltd Y Ltd X Ltd Y Ltd X Ltd Y Ltd X Ltd Y Ltd

R R R R R R R R

Balance at 30 June 19.2 300 000 200 000 Ð 150 000 150 000 160 000 450 000 510 000


Transfer to asset replacement

reserve 30 000 50 000 (30 000) (50 000) Ð Ð

Dividend paid (50 000) (20 000) (50 000) (20 000)

Balance at 30 June 19.3 300 000 200 000 30 000 200 000 250 000 200 000 580 000 600 000


1. X Ltd acquired 70% of the voting rights in Y Ltd at 1 July 19.0 for R260 000 when Y

Ltd's shareholders' equity consisted of:R



Asset replacement reserve 150 000

At the date of acquisition, consider the carrying amount of the assets and liabilities of Y Ltd

to be equal to the fair value thereof. It is the policy of the group to show goodwill at cost

price in the financial statements.

2. Y Ltd manufactures the same kind of heavy machinery as X Ltd uses. At 1 July 19.1 Y

Ltd sold a machine which had cost R150 000 to manufacture to X Ltd for R200 000.

3. The records with regard to X Ltd's machinery contain the following particulars:

R

Machinery purchased Ð 1 July 19.0 400 000

Depreciation Ð 30 June 19.1 (80 000)

320 000

Purchase of new machinery from Y Ltd Ð 1 July 19.1 200 000

Depreciation Ð 30 June 19.2 (120 000)

Ð 30 June 19.3 (120 000)

Machinery at carrying amount Ð 30 June 19.3 280 000

Depreciation is calculated at 20% per annum on the straight-line method.

4. X Ltd sells some of its inventories to Y Ltd at a profit of 20% on cost price. Y Ltd had the

following inventories, purchased from X Ltd, on hand:

R

30 June 19.2 36 000

30 June 19.3 72 000

REQUIRED


statement of changes in equity of X Ltd and its subsidiary for the year ended 30 June

19.3 to comply with the requirements of the Companies Act, 1973 and Generally

Accepted Accounting Practice. Show all your calculations. Ignore the taxation effect

on unrealised profits and/or losses as well as capital gains tax.

151ACN202R/1

Solut ions

Quest ion 1



Note R

Revenue (600 000 + 400 000 ± 20 000 ± 317 000) 663 000

Cost of sales (340 000 + 220 000 ± 317 000 ± 4 500 + 5 000) (243 500)


Administrative expenses [(18 000 + 16 000 7 4 000) + 8 000

+ 7 000 + 36 000 + 24 000 + 35 000 + 30 000] (170 000)

Finance cost (4 000 + 20 000 ± 10 000) (14 000)








Non-controlling interest (calculation 1)(b) 10 740

135 100




135 100


NOTES FOR THE YEAR ENDED 28 FEBRUARY 19.4


R


Expenses


Depreciation (18 000 + 16 000 ± 4 000) 30 000

Staff cost (36 000 + 24 000) 60 000

152ACN202R/1




the parent control-



R R R R R

Balance at 28 February 19.3 100 000 75 800# 175 800 23 700(a) 199 500


Dividend paid (10 000) (10 000) (4 000)(c) (14 000)

Balance at 28 February 19.4 100 000 190 160 290 160 30 440(d) 320 600

# 45 000 + 30 800(e)

Calculations


A Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

80% 20%

R R R RAt acquisitionShare capital 80 000 64 000 16 000

80 000 64 000 16 000(a)


NIL

Since acquisition to beginningof year

Retained earnings 38 500 30 800(e) 7 700(a)

Given 59 000At acquisition Ð

59 000Unrealised profit in inventory

(18 000 6 3313

13313

) (4 500)Unrealised profit on sale of

equipment(20 000)

Depreciation on unrealised profit(20 000 6 20

100 ) 4 000

Current year 53 700 42 960 10 740(b)

Profit for the year 50 200(1)

Unrealised profit in openinginventory 4 500

Unrealised profit in closing inventory[(15 000 + 5 000) 6 331

3

13313

] (5 000)Depreciation on unrealised profit 4 000

Dividend paid (20 000) (16 600) (4 000)(c)

152 000 57 760 30 440(d)

(1)400 000 ± 220 000 ± 30 000 ± 16 000 ± 24 000 ± 20 000 ± 7 000 ± 32 800

153ACN202R/1


control-ling

Dr Cr interest

R R RSales Ð B Ltd 317 000

Cost of sales Ð A Ltd 317 000Elimination of intercompany sales

Inventory Ð A Ltd 5 000Loan to B Ltd 5 000

Recording of inventory in transit

Cost of sales Ð B Ltd 5 000Inventory Ð A Ltd 5 000

Elimination of unrealised profit in closing inventoryof A Ltd

Retained earnings Ð B Ltd 4 500Cost of sales Ð B Ltd 4 500

Elimination of unrealised profits in openinginventory in A Ltd

Retained earnings Ð B Ltd 20 000Equipment Ð A Ltd 20 000

Elimination of unrealised profits on sale ofequipment

Accumulated depreciation Ð A Ltd 4 000Retained earnings Ð B Ltd 4 000

Elimination of depreciation associated with sale ofequipment for the period ended 28 February 19.3

Accumulated depreciation Ð A Ltd 4 000Depreciation Ð B Ltd 4 000

Elimination of depreciation associated with sale ofequipment for the year ended 28 February 19.4

Interest received Ð A Ltd 10 000Interest paid Ð B Ltd 10 000

Elimination of intercompany interest on loan

Share capital 80 000Investment in B Ltd 64 000Non-controlling interest 16 000 16 000

Elimination of shareholders equity of B Ltd atacquisition


Recording of non-controlling interest in B Ltd forthe period ended 28 February 19.3

23 700(a)


Recording of non-controlling interest in B Ltd forthe current year

Dividend received Ð A Ltd 16 000Non-controlling interest 4 000 (4 000)(c)

Dividend paid Ð B Ltd 20 000Elimination of intercompany dividend and recordingof non-controlling interest in the dividend

Loan from A Ltd Ð B Ltd 15 000Loan to B Ltd Ð A Ltd 15 000

Elimination of intercompany balances onloan accounts 30 440(d)

154ACN202R/1

Quest ion 2



Note R

Gross profit [465 000 + 329 000 + (20/120 6 36 000) 7(20/120 6 72 000)] 788 000

Other income [5 000 + 1 000 + 30 000 ± (20 000 6 70%)] 22 000

Administrative expenses [120 000 + 100 000 7(50 000 6 20%) + 80 000 + 50 000] (340 000)








Non-controlling interest (calculation 1)(b) 36 000

280 000Total comprehensive income attributable to:



280 000


NOTES FOR THE YEAR ENDED 30 JUNE 19.3

1. Profit before taxR


Income

Dividends received (30 000 ± 14 000(f)) 16 000

Expenses

Depreciation (120 000 + 100 000 ± 10 000) 210 000

Staff cost (80 000 + 50 000) 130 000



Attributable to owners of the parent Non-

Share Asset replace- Retained Total controlling Total

capital ment reserve earnings interest equity

R R R R R R

Balance at 30 June 19.2 300 000 Ð 214 000# 514 000 141 000(a) 655 000


Dividend paid (50 000) (50 000) (6 000)(c) (56 000)

Transfer to asset

replacement reserve 65 000 (65 000) . Ð Ð Ð

Balance at 30 June 19.3 300 000 65 000 343 000 708 000 171 000(d) 879 000

# 150 000 ± 6 000 (unrealised profit in opening inventory) + 70 000(e)

. [30 000 + (50 000 6 70%)]

155ACN202R/1

Calculations:


X Ltd

Total Atacquisition

Sinceacquisition

Non-controlling

interest

70% 30%


Share capital 200 000 140 000 60 000


Asset replacement reserve 150 000 105 000 45 000

370 000 259 000 111 000(a)


Goodwill 1 000

Since acquisition to the beginningof the current year

Retained earnings 100 000 70 000 RE(e) 30 000(a)

Given 160 000At acquisition (20 000)

140 000Unrealised profit on sale of

machinery (200 000 ± 150 000) (50 000)Depreciation on unrealised profit

(50 000 6 20100 ) 10 000

Current yearProfit for the year 120 000 84 000 RE 36 000(b)

Profit after tax 110 000

Depreciation on unrealised profit 10 000

Asset replacement reserve 50 000 35 000 OE 15 000Transfer to asset replacement

reserve (50 000) (35 000) RE (15 000)

Dividend paid (20 000) (14 000) (6 000)(c)

570 000 105 000 RE35 000 OE

171 000(d)

156ACN202R/1

2. Journal entries

Non-con-

trolling

Dr Cr interest

R R R



Asset replacement reserve 150 000

Goodwill 1 000




Y Ltd at acquisition


Machinery Ð X Ltd 50 000

Elimination of intercompany profits on sale of

machinery

Accumulated depreciation Ð X Ltd 10 000


Elimination of depreciation associated with sale of

machinery for the period ended 30 June 19.2

Accumulated depreciation Ð X Ltd 10 000

Depreciation Ð Y Ltd 10 000

Elimination of depreciation associated with sale of

the machinery for the current year

Cost of sales Ð X Ltd 12 000

Inventory Ð Y Ltd 12 000

Elimination of unrealised profits in closing

inventories

Retained earnings Ð X Ltd 6 000

Cost of sales Ð X Ltd 6 000

Elimination of unrealised profits in

opening inventories




Y Ltd for the period ended 30 June 19.2

141 000(a)




Y Ltd for the year ended 30 June 19.3

Dividends received Ð X Ltd 14 000


Dividend paid Ð Y Ltd 20 000

Elimination of intercompany dividend and record-

ing of non-controlling interest in the dividend

Transfer to asset replacement reserve (SCI) 15 000 (15 000)

Asset replacement reserve (SFP) 15 000 15 000

Recording of non-controlling interest in transfer of

asset replacement reserve

171 000(d)

157ACN202R/1

SELF -ASSESSMENT


. calculate any ordinary dividend declared or paid by a subsidiary correctly in

consolidated annual financial statements?

. record any ordinary dividend declared or paid by a subsidiary correctly in



158ACN202R/1

STUDY UNIT

9Treatment of preference shares duringconsolidation

Learning outcome

Learners can record any preference dividend declared or paid by a subsidiary inthe consolidated financial statements.

OVERVIEW


Page

Key concepts 159



9.2 Consolidation procedures if the subsidiary's capital includes

preference shares 160

9.3 Treatment of preference dividends of subsidiary 166

9.4 Exercises 186

Solutions 191

Self-assessment 203

KEY CONCEPTS

. Preferential rights

. Non-cumulative preference shares

. Cumulative preference shares

. Participating and non-participating

. Arrear preference dividends

159ACN202R/1

ASSESSMENT CRITERIA


. calculate the parent's percentage interest in the preference share capital of the

subsidiary

. record any preference dividends paid or declared by a subsidiary in consolidated

annual financial statements

. record arrear cumulative preference dividends payable/paid by a subsidiary in



9.1 INTRODUCTION

In study unit 8 we discussed the treatment of dividends where the subsidiary's share capital

consists only of ordinary share capital. In this study unit we deal with the treatment of

preference share capital and preference dividends.

Preference shares bear a fixed dividend percentage. If sufficient profits are available, these

shares enjoy a preferential right in respect of dividends.

Cumulative preference shares differ slightly from ordinary preference shares in that the fixed

preferential dividend accumulates if it is not paid out annually. A company is therefore obliged

to pay all cumulative preference shares that are in arrears as soon as sufficient funds become

available.

Participating preference shares share in the profits of a company after the payment of the

preference dividend. Convertible preference shares are convertible to ordinary shares at a

specific date in future. Although a company may not buy its own shares, it may buy back

(redeem) redeemable preference shares after a specific period at a predetermined price.

Preference shares of a subsidiary form part of the subsidiary's shareholders' equity. Preference

shareholders can, however, only participate in the profit or capital up to a fixed amount. The

holder of 12% preference shares to the value of R2 000 will receive a dividend of only R240

(R2 000 x 12%) per annum. Further, if the subsidiary is liquidated the preference shareholder

will receive a maximum amount of R2 000.

Where preference shares in a subsidiary are held this affects the calculation of the non-

controlling interest in the consolidated statement of comprehensive income and statement of

financial position. By the time you have completed this study unit this statement should be clear

to you.

9.2 CONSOLIDATION PROCEDURES IF THE SUBSIDIARYSCAPITAL INCLUDES PREFERENCE SHARES

Since the parent's percentage interest in the ordinary share capital of the subsidiary is not

necessarily the same as its percentage interest in the preference share capital, we recommend

that you should always draw up two separate analyses of shareholders' equities, namely one

for ordinary share capital and one for preference share capital.

Work through the following example carefully:

160ACN202R/1

Example

The following are the condensed financial statements of H Ltd and its subsidiary S Ltd:

STATEMENTS OF FINANCIAL POSITIONS AS AT 31 DECEMBER 19.7

H Ltd S Ltd

R R

ASSETS


Land and buildings at cost price 100 000 80 000

Plant at carrying amount 40 000 20 000

Investment in S Ltd at fair value

75 000 ordinary shares (cost price: R120 000) 120 000 Ð

20 000 preference shares (cost price: R25 000) 25 000 Ð

Current account Ð S Ltd 8 000 Ð



338 000 208 000



10% Preference shares of R1 each Ð 50 000


Current account Ð H Ltd Ð 5 000


338 000 208 000


H Ltd S Ltd

R R


Income received from S Ltd

Ordinary dividend 7 500 Ð

Preference dividend 2 000 Ð






STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED31 DECEMBER 19.7

Ordinary share 10% Preference Retained Total

capital shares earnings

H Ltd S Ltd H Ltd S Ltd H Ltd S Ltd H Ltd S Ltd

R R R R R R R R

Balance at 31 December 19.6 200 000 100 000 Ð 50 000 24 000 14 000 224 000 164 000


Preference dividend paid Ð (5 000) Ð (5 000)

Ordinary dividend paid (15 000) (10 000) (15 000) (10 000)


161ACN202R/1


1. H Ltd acquired its shareholding in S Ltd on 1 January 19.5, at which time S Ltd's retained

earnings was R9 000.

At the date of acquisition, consider the carrying amount of the assets and liabilities of S Ltd

to be equal to the fair value thereof except for the land and buildings of S Ltd valued at

R120 000. No entries had been made in the books of the subsidiary. No purchases or

sales of land and buildings have taken place subsequently.

2. Since 1 April 19.7, S Ltd has been buying some of its inventories from H Ltd at cost price

plus 25%. The inventories of S Ltd at 31 December 19.7 included inventories to the value

of R10 000 which had been purchased from H Ltd. Inventories invoiced at R3 000 by H Ltd

were in transit to S Ltd at 31 December 19.7.

REQUIRED

Draft the consolidated annual financial statements of H Ltd and its subsidiary for the year

ended 31 December 19.7. Ignore taxation on unrealised profits and/or losses.



ASSETS R


Property, plant and equipment [100 000 + 80 000 + 40 000 (re-

valuation) + 40 000 + 20 000] 280 000

Goodwill (8 250(4) + 5 000(4)) 13 250


Inventories [25 000 + 60 000 + 3 000 (in transit) 7 (13 000 6 25125 )] 85 400








Non-controlling interest (44 250(3) + 30 000(3))(d) 74 250



162ACN202R/1



R

Profit before tax (calculation 2) 115 900







Non-controlling interest (9 500 ± 1 250 + 3 000)(1)/(b) 11 250

70 900




70 900




the parent control-



R R R R R



Dividend paid (15 000) (15 000) (5 500)(c) (20 500)


* (24 000 + 3 750(2))

163ACN202R/1

Calculations


Ordinary sharesH Ltd 75% Non-

controlling

TotalAt

acquisitionSince

acquisitioninterest

25%


Share capital 100 000 75 000 25 000


Revaluation reserve(120 000 ± 80 000) 40 000 30 000 10 000

149 000 111 750 37 260


Goodwill 8 250(4)

Since acquisition to beginning ofcurrent year

Retained earnings(14 000 ± 9 000) 5 000 3 750(2) (1 250)

Current year


Preference dividend* (5 000) (3 750) (1 250)(1)


291 190 5 752 58 238(3)

Preference shares H LtdNon-

TotalAt

acquisitionSince

acquisitioncontrolling

interest

40% 60%


Share capital 50 000 20 000 30 000


Goodwill 5 000(4)

Current year

Attributable profit* 5 000 2 000 3 000(1)


50 000 Ð 30 000(3)


H Ltd 70 000S Ltd 58 000Ordinary dividend received from S Ltd (7 500)Preference dividend received from S Ltd (2 000)Unrealised profit in closing inventories (2 600)[(10 000 + 3 000) x 25

125 ]115 900

164ACN202R/1


controlling

Dr Cr interest

R R RLand and buildings Ð S Ltd 40 000

Revaluation reserve Ð S Ltd 40 000Valuation of land and buildings at acquisition

Share capital 100 000Retained earnings 9 000Revaluation reserve 40 000Goodwill 8 250




Recording of non-controlling interest inS Ltd for the period ended 31 December 19.6

Preference share capital 50 000Goodwill 5 000

Investment in S Ltd 25 000Non-controlling interest 30 000 30 000


68 500(a)

Non-controlling interest (SCI)[(38 000 ± 5 000) 6 25%]

8 250


Recording of non-controlling interest in profitafter tax after provision for dividends of S Ltdon preference shares for current year ended31 December 19.6

Dividends received Ð H Ltd 7 500Non-controlling interest (SFP) 2 500 (2 500)(c)

Dividend paid Ð S Ltd 10 000Elimination of intercompany dividend andrecording of non-controlling interest in thedividend


Recording of non-controlling interest in profitafter tax for the current year ended31 December 19.6 in S Ltd

Dividends received (preference shares) Ð HLtd

2 000


Dividend paid (preference shares) Ð S Ltd 5 000Elimination of intercompany dividend and recor-ding of non-controlling interest in the dividend

Inventory Ð S Ltd 3 000Current account Ð H Ltd 3 000

Inventory in transit at 31 December 19.7

165ACN202R/1

Non-

controlling

Dr Cr interest

R R RGross profit/Profit before tax Ð H Ltd 2 600

Inventory Ð S Ltd 2 600Unrealised profit in closing inventory Ð S Ltd

Current account Ð H Ltd 8 000Current account Ð S Ltd 8 000

Elimination of intercompany loans74 250(d)

COMMENTS

. Please note that if the parent pays more for its investment in the subsidiary's preference

shares than the par value of the shares this is referred to as ``goodwill''.

. Students cannot always understand why the preference dividend* is taken into account

twice (as they see it) in the analyses of shareholders' equity. However, this is not the

case. It is the pro rata portion (10% x 50 000) of the preference shareholders' interest

in the profit which is transferred from the ordinary shareholders' analysis to the

preference shareholders' analysis so that it can be distributed according to that

percentage interest (40:60).

9.3 TREATMENT OF PREFERENCE DIVIDENDS OFSUBSIDIARY

The following are the three situations which most commonly arise:

. Preference dividends outstanding at the accounting date

In this case the subsidiary has declared the dividend, but it is to be paid out at a later date.

Therefore, the only effect this will have on the consolidated statements is that the non-

controlling interest has to be raised by the portion of the dividend or profit which they have

not yet received.

. Accumulated preference dividends at acquisition of subsidiary

In this case an amount in respect of accumulated preference dividends is included in the

calculation of the purchase price of the preference share investment. This implies that

payment is made for the preference share dividend that will be declared later in the year. If

this dividend is declared, the investment will be reduced accordingly.

. Arrear preference dividends

Since we are dealing with cumulative preference shares here it is always necessary to make

provision for any arrear preference dividends. All arrear preference dividends have to be

paid before it is permissible to pay an ordinary dividend.

166ACN202R/1

Example 1

Preference dividend outstanding at accounting date

The following represent the abridged financial statements of A Ltd and its subsidiary B Ltd:


A Ltd B Ltd

ASSETS R R

Plant 50 000 120 000

Investment in B Ltd at fair value




167 000 168 000



Ð 12% Preference shares of R1 each 20 000 10 000



167 000 168 000


Ordinary share 12% Preference Retained Total


H Ltd S Ltd H Ltd S Ltd H Ltd S Ltd H Ltd S Ltd

R R R R R R R R

Balance at 31 December 19.8 100 000 100 000 20 000 10 000 14 000 28 000 134 000 138 000


Balance at 31 December 19.9 100 000 100 000 20 000 10 000 35 000 40 000 155 000 150 000


amounted to R15 000. On 1 January 19.6 no preference dividends were in arrears. Provision

must still be made for the 19.9 preference dividend. At the date of acquisition, consider the

carrying amount of the assets and liabilities of B Ltd to be equal to the fair value thereof.

Before we can draft the consolidated financial statements we must first do the two analyses of

shareholders' equity.

167ACN202R/1

Calculations

1. Analysis of shareholders equity in B Ltd

Ordinary shares A LtdNon-

TotalAt

acquisitionSince


interest

75% 25%


Share capital 100 000 75 000 25 000


115 000 86 250 28 750


NIL


Retained earnings(28 000 ± 15 000) 13 000 9 750(3) 3 250

Current year


Preference dividend*(12% 6 10 000) (1 200) (900) (300)(2)

138 800 17 850 34 700(4)

Preference shares A LtdNon-

TotalAt

acquisitionSince


interest

40% 60%


Share capital 10 000 4 000 6 000


Goodwill NIL

Current year

Profit share* 1 200 480 720(2)

Ordinary dividend (1 200) (480) (720)(1)

10 000 Ð 6 000(4)

168ACN202R/1

3. Journal entries

Non-

controlling

Dr Cr interest

R R R

Share capital Ð ordinary shares 100 000


Goodwill NIL



Elimination of shareholders' equity of B Ltd at

acquisition



Recording of non-controlling interest in B Ltd

for the period ended 31 December 19.8

Share capital Ð preference shares 10 000

Goodwill NIL



Elimination of shareholders' equity of B Ltd at

acquisition

38 000(a)

Non-controlling interest (SCI)

[(12 000 ± 1 200) 6 25%)]

2 700



after tax of B Ltd for the current year ended

31 December 19.9 Ð ordinary shares

Non-controlling interest (SCI) 720

Non-controlling interest (SFP) 720 720(b)


after tax of B Ltd for the current year ended

31 December 19.9 Ð preference shares

Non-controlling interest (SFP) 720 (720)(c)

Dividends payable 720

Transfer of preference dividends proposed

and due to the non-controlling shareholders

40 700(d)

169ACN202R/1



RASSETS

Non-current assets


Current assets






Share capital (100 000 + 20 000) 120 000


Non-controlling interest (34 700(4) + 6 000(4))(d) 40 700


Dividends payable [(20 000 6 12%) + 720(1)] 3 120





R

Profit for the year (21 000 + 12 000) 33 000





Non-controlling interest (3 000 ± 300 + 720)(2)/(b) 3 420

33 000




33 000




12%

Share Preference Retained

Non-controlling Total

capital shares earnings Total

interest equity

R R R R R R

Balance at 31 December 19.8 100 000 20 000 23 750* 143 750 38 000(a) 181 750


Dividend declared (20 000 6 12%) (2 400)(1) (2 400) (720)(c) (3 120)

Balance at 31 December 19.9 100 000 20 000 50 930 170 930 40 700(d) 211 630

* (14 000 + 9 750(3))

170ACN202R/1

Example 2

Accrued preference dividend on acquisition of subsidiary

The following represent the abridged financial statements of D Ltd and its subsidiary E Ltd:


D Ltd E Ltd

R R

ASSETS

Plant 50 000 120 000

Investment in E Ltd at fair value




179 950 168 000


Issued capital

± Ordinary shares of R1 each 100 000 100 000

± 14% Preference shares of R1 each Ð 18 000



179 950 168 000

STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 19.7Ordinary share 10% Preference Retained Total


D Ltd E Ltd D Ltd E Ltd D Ltd E Ltd D Ltd E Ltd

R R R R R R R R



Preference dividend Ð (2 520) Ð (2 520)


D Ltd acquired 80% of the ordinary shares in E Ltd on 1 January 19.7. On this date the

preference dividends were not in arrears. On 1 April 19.7 D Ltd acquired 40% of the issued

preference shares in E Ltd for R7 452. At the date of acquisition, consider the carrying amount

of the assets and liabilities of E Ltd to be equal to the fair value thereof.

If we assume that the purchase price of the preference shares are calculated as follows

R

Par-value of 7 200 preference shares 7 200

Dividend for 3 months (7 200 6 14% 6 3/12) 252

7 452

The following journal entry will appear in the books of D Ltd when the dividend was paid by

E Ltd:

Dr Cr

R R

Bank 1 008

Investment in E Ltd 252

Dividend received 756

Dividend for year received from E Ltd (7 200 6 14%)

The analysis of shareholders' equity will look as follows:

171ACN202R/1

Calculations

1. Analysis of shareholders equity in E Ltd

D LtdNon-

TotalAt

acquisitionSince


interest

80% 20%

R R R ROrdinary shares at acquisition

Share capital 100 000 80 000 20 000


120 000 96 000 24 000


NIL

Current year

Profit for the year 14 520 11 616 2 904

Preference dividend* (2 520) (2 016) (504)

132 000 9 600 26 400

A LtdNon-

TotalAt

acquisitionSince


interest

40% 60%

R R R RPreference shares at acquisition

Share capital 18 000 7 200 10 800

Profit share* (18 000 6 14% 6 312 ) 630 252 378

Preference dividend (630) (252) (378)

18 000 7 200 10 800

Investment in E Ltd (7 452 ± 252) 7 200

NIL

Current year

Profit share* (2 520 ± 630) 1 890 756 1 134

Preference dividend(18 000 6 14% 6 9

12 )(1 890) (756) (1 134)

18 000 Ð 10 800

172ACN202R/1

2. Journal entries

Non-

controlling

Dr Cr interest

R R R

Retained earnings Ð at acquisition 630

Dividends paid 630

Recording of dividends paid from

pre-acquisition retained earnings



Goodwill NIL




E Ltd at acquisition

Non-controlling interest (SCI)

[(14 520 ± 2 520) 6 20%]

2 400


Recording of non-controlling interest in pre-

ference dividend for the current year ended

31 December 19.7 Ð ordinary shares


Goodwill NIL




E Ltd at acquisition



Recording of non-controlling interest in pref-

erence dividend for the current year ended

31 December 19.7 Ð preference shares

Dividend received Ð D Ltd 756

Non-controlling interest (SFP) 1 134 (1 134)

Dividend paid 1 890


37 200

173ACN202R/1

Example 3

Arrear preference dividend at acquisition Ð still in arrears

The following represent the condensed annual financial statements of F Ltd and G Ltd for the

year ended 28 February 19.7:


F Ltd G Ltd

R R

ASSETS

Land and buildings 475 990 308 700

Investment in G Ltd at fair value


10 000 12% cumulative preference shares

(cost price: R12 500) 12 500 Ð

10% debentures (cost price: R4 000) 4 000 Ð



Loan account Ð F Ltd Ð 21 000

669 100 387 780


Share capital


12% Cumulative preference shares of R1 each Ð 100 000


Revaluation of land and buildings 20 000 15 000

Bank overdraft 10 890 3 280


10% Debentures Ð 10 000

Loan account Ð G Ltd 21 000 Ð

669 100 387 780


F Ltd G Ltd

R R






174ACN202R/1

STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED 28 FEBRUARY 19.7

Ordinary share 12% Cumulative Revaluation Retained Total

capital preference shares reserve earnings

F Ltd G Ltd F Ltd G Ltd F Ltd G Ltd F Ltd G Ltd F Ltd G Ltd

R R R R R R R R R R

Balance at 28 February 19.6 500 000 200 000 Ð 100 000 20 000 15 000 93 400 17 800 613 400 332 800

Total comprehensive income for the year Ð Ð 19 200 10 600 19 200 10 600



1. F Ltd acquired its interest in G Ltd at 1 March 19.5 when the reserves were as follows:

F Ltd G Ltd

R R

Revaluation of land and buildings 20 000 Ð


At the date of acquisition, consider the carrying amount of the assets and liabilities of G Ltd to be equal to the fair value thereof.

2. At 1 March 19.5 the preference dividends for the previous two years were in arrears. No dividends have since been paid.

3. Land and building of G Ltd was revalued on 31 January 19.6.

4. At 28 February 19.7 there was no arrear interest on debentures.

REQUIRED

Draft the consolidated financial statements of F Ltd and its subsidiary at 28 February 19.7 according to the requirements of the Companies

Act, 1973 and Generally Accepted Accounting Practice.

17

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F LTD AND ITS SUBSIDIARY


R

ASSETS



Goodwill (10 780 + 100)(5) 10 880


Inventories (15 510 + 45 280) 60 790







Other components of equity 30 500


Non-controlling interest (58 620 + 133 200)(4)/(c) 191 820



Long-term borrowing Ð 10% Debentures (10 000 7 4 000) 6 000


Bank overdraft (10 890 + 3 280) 14 170





R









29 800




29 800

176ACN202R/1




Non-

Share Revaluation Retained controlling Total

capital surplus earnings Total interest equity

R R R R R R

Balance at 28 February 19.6 500 000 30 500* 92 640# 623 140 181 440(a) 804 580


Balance at 28 February 19.7 500 000 30 500 112 060 642 560 191 820(c) 834 380

* (20 000 + 10 500(3))# (93 400 7 1 960(2) + 1 200(2))

Calculations

1. Analysis of shareholders equity of G Ltd

Ordinary sharesF Ltd 70% Non-

controlling

TotalAt

acquisitionSince

acquisitioninterest

30%


Share capital 200 000 140 000 60 000

Retained earnings (15 400) (10 780) (4 620)

Given 8 600

Arrear preference dividends

(12% 6 100 000 6 2 years) (24 000)

184 600 129 220 55 380

Investment in G Ltd 140 000

Goodwill 10 780(5)


Retained earnings/(loss) (2 800) (1 960)(2)RE (840)

Given (17 800 ± 8 600) 9 200


(12% 6 100 000 6 1 year)

(12 000)

Revaluation reserve 15 000 10 500(1)OE 4 500

Current year

Profit for the year 10 600 7 420 RE 3 180(1)

Preference dividends (12 000) (8 400) RE (3 600)(1)

(2 940) RE

195 400 10 500 OE 58 620(3)

177ACN202R/1

Preference shares F LtdNon-

TotalAt

acquisitionSince


interest

10% 90%


Share capital 100 000 10 000 90 000

Arrear preference dividends 240 000 2 400 21 600

124 000 12 400 111 600


Goodwill 100(5)

Since acauisition to beginning ofcurrent year

Preference dividends 12 000 1 200(2) 10 800

Current year

Preference dividends 12 000 1 200 10 800(1)

148 000 2 400 133 200(4)

Profit before tax R

F Ltd 29 600

G Ltd 16 300

Interest received on debentures (400)

Interest paid on debentures 400

45 900


controlling

Dr Cr interest

R R R


Goodwill 10 780

Retained loss 15 400



Elimination of shareholders' equity of G Ltd

at acquisition

Non-controlling interest (SFP) 840 (840)

Retained earnings/(loss) 840

Recording of non-controlling interest in profit/

(loss) since acquisition to beginning of

current year

178ACN202R/1

Non-

controlling

Dr Cr interest

R R R

Revaluation reserve 4 500Non-controlling interest 4 500 4 500


revaluation of asset for the period ended

29 February 19.6



Goodwill 100



Elimination of shareholders' equity of G Ltd

at acquisition Ð preference shares

Retained earnings Ð preference shares 10 800



preference dividends for the period ended

29 February 19.6

181 440(a)

Non-controlling interest (SFP)

[(10 600 ± 12 000) 6 30%]

420 (420)(b)

Non-controlling interest (SCI) 420


after tax for the current year ended 28

February 19.7




preference dividends for the current year

ended 28 February 19.7

10% Debentures Ð G Ltd 4 000

10% Debentures Ð F Ltd 4 000

Elimination of intercompany debentures

Loan account G Ltd Ð F Ltd 21 000

Loan account F Ltd ± G Ltd 21 000


Interest received from G Ltd Ð F Ltd 400

Interest paid to F Ltd Ð G Ltd 400

Elimination of intercompany transaction

191 820(c)

179ACN202R/1

Example 4

Arrear preference dividend at acquisition Ð since paid

The following represent the condensed annual financial statements of W Ltd and V Ltd for the



W Ltd V Ltd

R R

ASSETS


Investment in V Ltd at fair value



(cost price: R12 500) 12 500 Ð

10% debentures (cost price: R4 000) 4 000 Ð



Loan account Ð W Ltd Ð 28 000

669 100 387 780


Issued capital


12% Cumulative preference shares of R1 each Ð 100 000


Revaluation of land and buildings 20 000 15 000

Bank overdraft 10 890 3 280



Loan account Ð V Ltd 21 000 Ð


669 100 387 780


W Ltd V Ltd

R R






180ACN202R/1

STATEMENTS OF CHANGES IN EQUITY FOR THE YEAR ENDED 28 FEBRUARY 19.7

Ordinary share 12% Cumulative Revaluation Retained Total

capital preference shares reserve earnings

W Ltd V Ltd W Ltd V Ltd W Ltd V Ltd W Ltd V Ltd W Ltd V Ltd

R R R R R R R R R R


Total comprehensive income for the year Ð Ð 19 200 68 600 19 200 68 600

Ordinary dividend declared Ð (10 000) Ð (10 000)

Preference dividend paid Ð (48 000) Ð (48 000)



1. W Ltd acquired its interest in V Ltd at 1 March 19.5 when the reserves were as follows:

W Ltd V Ltd

R R



At the date of acquisition, consider the carrying amount of the assets and liabilities of V Ltd to be equal to the fair value thereof.

Each share carries one vote.

2. At 1 March 19.5 the preference dividends for the previous two years were in arrears. All arrear preference dividends were paid on

28 February 19.7.

3. Land and buildings of V Ltd was revalued on 31 January 19.6.

4. On 28 February 19.7 a dividend of 10 cents per ordinary share was declared by V Ltd. W Ltd recorded this receivable dividend.

5. At 28 February 19.7 there was no arrear interest on debentures.

REQUIRED

Draft the consolidated financial statements of W Ltd and its subsidiary at 28 February 19.7 according to the requirements of the Companies

Act, 1973 and Generally Accepted Accounting Practice.

18

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W LTD AND ITS SUBSIDIARY


R

ASSETS



Goodwill (10 780 + 100)(6) 10 880


Inventories (15 510 + 38 280) 53 790









Non-controlling interest (73 020 + 90 000)(4)/(e) 163 020





Bank overdraft (10 890 + 3 280) 14 170


Dividends payable(5) 3 000




R









76 000




76 000

182ACN202R/1




Non- Non-

Share distributable Retained controlling Total

capital reserve earnings Total interest equity

R R R R R R

Balance at 28 February 19.6 500 000 30 500* 92 640# 623 140 181 440(a) 804 580


Ordinary dividend Ð Ð (3 000)(c) (3 000)

Preference dividend Ð Ð (43 200)(d) (43 200)

Balance at 28 February 19.7 500 000 30 500 140 860 671 360 163 020(e) 834 380

* (20 000 + 10 500(3))# (93 400 7 1 960(2) + 1 200(2))

Calculations

1. Analysis of shareholders equity of V Ltd

Ordinary sharesW Ltd 70% Non-

controlling

TotalAt

acquisitionSince

acquisitioninterest

30%


Share capital 200 000 140 000 60 000

Retained earnings (15 400) (10 780) (4 620)

Given 8 600


(12% 6 100 000 6 2 years) (24 000)

184 600 129 220 55 380

Investment in V Ltd 140 000

Goodwill 10 780(6)

Since acquisition to beginning

of current year

Retained earnings/(loss) (2 800) (1 960)(2)RE (840)

Given (17 800 ± 8 600) 9 200


(12% 6 100 000 6 1 year)

(12 000)

Revaluation reserve 15 000 10 500(3)OE 4 500

Current year

Profit for the year 68 600 48 020 RE 20 580(1)

Preference dividends (12 000) (8 400)RE (3 600)(1)

Ordinary dividends (10 000) (7 000)RE (3 000)(5)

30 660RE

243 400 10 500 OE 73 020(4)

183ACN202R/1

Preference shares W LtdNon-

TotalAt

acquisitionSince


interest

10% 90%


Share capital 100 000 10 000 90 000

Arrear preference dividends 240 000 2 400 21 600

124 000 12 400 111 600


Goodwill 100(6)

Since acauisition to beginning ofcurrent year

Preference dividends 12 000 1 200(2) 10 800

Current year

Preference dividends 12 000 1 200 10 800(1)

Preference dividends (48 000) (4 800) (43 200)

100 000 (2 400) 90 000(4)


W Ltd 29 600

V Ltd 106 000

Ordinary dividend declared by V Ltd (7 000)

Preference dividend paid by V Ltd [(10 000 6 12%) 6 4] (4 800)

Interest received on debentures (400)

Interest paid on debentures 400

123 800


controlling

Dr Cr interest

R R RShare capital Ð ordinary shares 200 000Goodwill 10 780

Retained loss 15 400Investment in V Ltd 140 000Non-controlling interest 55 380 55 380

Elimination of shareholders' equity of V Ltd atacquisition

Non-controlling interest (SFP) 840 (840)Retained earnings/(loss) 840

Recording of non-controlling interest in profit/(loss) since acquisition to beginning ofcurrent yearRevaluation reserve 4 500

Non-controlling interest 4 500 4 500Recording of non-controlling interest inrevaluation reserve for the period ended29 February 19.6

184ACN202R/1

Non-

controlling

Dr Cr interest

R R RShare capital Ð preference shares 100 000Retained earnings 24 000Goodwill 100

Investment in V Ltd 12 500Non-controlling interest 111 600 111 600

Elimination of shareholders' equity of V Ltd atacquisition Ð preference shares

Retained earningsÐ preference shares 10 800Non-controlling interest 10 800 10 800

Recording of non-controlling interest in preferencedividends for the period ended 29 February 19.6

181 440(a)

Non-controlling interest(SCI) [(68 600 ± 12 000) 6 30%]

16 980


Recording of non-controlling interest in profit forthe year ended 28 February 19.7

Dividends received Ð W Ltd 7 000Non-controlling interest (SFP) 3 000 (3 000)(c)

Ordinary dividends paid Ð V Ltd 10 000Elimination of intercompany dividends andrecording of non-controlling interest inordinary dividends


Recording of non-controlling interest in preferencedividends for the year ended 28 February 19.7

Dividends received Ð W Ltd 4 800Non-controlling interest (SFP) 43 200 (43 200)(d)

Preference dividends paid Ð V Ltd 48 000Elimination of intercompany dividends andrecording of non-controlling interest inpreference dividends

10% Debentures Ð V Ltd 4 00010% Debentures Ð W Ltd 4 000


Dividends payable (10 000 6 70%) 7 000Loan account of W Ltd 7 000

Elimination of intercompany dividends payable

Loan account V Ltd Ð W Ltd 21 000Loan account W Ltd Ð V Ltd 21 000


Take note that the two loan accounts of the parentand the subsidiary balance on R21 000.

Interest received on debentures Ð W Ltd 400Interest paid on debentures Ð V Ltd 400

Elimination of inter company interest ondebentures (4 000 6 10%)

163 020 (e)

185ACN202R/1

9.4 EXERCISES

Now that you have studied the group statements, we are giving you three exercises to work

through.

Question 1

The following represent the condensed statement of financial position of K Ltd and its

subsidiary L Ltd as at 28 February 19.2:

K Ltd L Ltd

R R

ASSETS


Land and buildings at cost 80 000 75 000

Investment in L Ltd at fair value 130 000 Ð



(cost price: R13 000) 13 000 Ð

Loan Ð K Ltd Ð 20 000




255 000 167 000


Issued capital 140 000 100 000

Ð Ordinary shares of R2 each 100 000 80 000

Ð 8% Cumulative preference shares of R1 each 40 000 20 000

Share premium Ð ordinary shares Ð 20 000


Loan Ð L Ltd 16 000 Ð

Current liabilities ± Trade and other payables 54 000 13 000

255 000 167 000


1. K Ltd acquired its total shareholding in L Ltd at 1 March 19.1 when the reserves were as

follows:

R



2. On the date of acquisition it was decided that L Ltd's land and buildings should be valued

upwards by an amount of R20 000. At the date of acquisition, consider the carrying amount

of the assets and liabilities of L Ltd to be equal to the fair value thereof.

3. L Ltd's preference dividends were two years in arrears, namely for the 19.1 and 19.2

financial years.

4. With effect from 1 March 19.1, K Ltd purchased some of its inventories from L Ltd. L Ltd

sold its inventories to K Ltd at cost plus 3313 %. On 28 February 19.2 K Ltd had inventories

to the value of R5 000 on hand which it had purchased from L Ltd.

186ACN202R/1

5. On 2 January 19.2 K Ltd sold a non-depreciable asset with a cost price of R10 000 to L Ltd

at cost plus 25%.

6. Cash to the value of R4 000 in respect of the last consignment of inventories purchased

from L Ltd by K Ltd was still in transit on 28 February 19.2.

7. Each share carries one vote.

REQUIRED

Draft the consolidated statement of financial position of K Ltd and its subsidiary L Ltd as at

28 February 19.2 to comply with the requirements of the Companies Act, 1973 and

Generally Accepted Accounting Practice. Notes are not required. (Show all your

calculations.)

Question 2

The following balances were taken from the records of P Ltd and D Ltd for the year ended

30 June 19.9:

P Ltd D Ltd

R R

Debits

Property at cost 600 000 160 000

Equipment at cost 300 000 180 000


Investment in D Ltd at fair value

Ð 30 000 ordinary shares (cost price: R204 000) 204 000 Ð

Bank Ð O Bank 1 200 12 000



Provisional tax payments 100 000 90 000

Loan to parent (interest-free) Ð 140 000

Dividends paid Ð Ordinary shares 40 000 30 000

Ð Preference shares 12 000 7 500

1 671 600 1 276 300

Credits

Issued capital

± Ordinary shares of R2 each 200 000 100 000

± 15% Cumulative preference shares of R1 each 80 000 50 000

Share premium 40 000 20 000

Retained earnings beginning of year 150 000 118 000

Accumulated depreciation

Ð Equipment 128 000 94 000

Bank overdraft Ð B Bank 48 000 Ð


Taxation payable 190 000 170 000

Loan from subsidiary 120 000 Ð


1 671 600 1 276 300

187ACN202R/1


1. P Ltd acquired its interest in D Ltd at 1 July 19.5. At that date D Ltd's retained earnings

amounted to R35 000 and its share premium to R20 000. P Ltd paid R204 000, R75 000 of

which was paid for goodwill. The balance was attributable to the revaluation of D Ltd's

property. The carrying amount of the assets and liabilities was equal to the fair value

thereof. At the date of acquisition there was no arrear preference dividend. Each share

carries one vote.

2. P Ltd has bought all its inventories from D Ltd since 1 July 19.8. D Ltd made a profit of 25%

on the cost price of inventories sold to P Ltd.

3. D Ltd paid no preference dividends for the period 1 July 19.5 to 30 June 19.7. On 30 June

19.8 D Ltd paid a preference dividend of R22 500.

4. On 29 June 19.9 D Ltd sent goods to the value of R20 000 to P Ltd, which only received

them on 3 July 19.9.

5. On 2 January 19.8 P Ltd sold a machine to D Ltd at a profit of R40 000. It is group policy to

provide for depreciation at 25% per annum according to the reducing balance method.

REQUIRED

Draft the consolidated financial statements of P Ltd and its subsidiary for the year

ended 30 June 19.9 in accordance with the requirements of the Companies Act, 1973

and Generally Accepted Accounting Practice. No notes are required. Ignore taxation

on unrealised profits and/or losses, as well as capital gains tax.

Question 3

The following balances were extracted from the records of the two companies J Ltd and

T Ltd at 31 December 19.3:

J Ltd T Ltd

Debits R R

Land and buildings at cost 150 000 180 000

Machinery

Ð Cost price 128 400 180 000

Ð Accumulated depreciation (59 600) (95 900)

Patents at carrying amount 7 600 9 500

Investment in T Ltd


(cost price: R125 000) 125 000 Ð

Ð 40 000 6% cumulative preference shares


Ð 20 000 debentures at fair value (cost price: R20 000) 20 000 Ð

Loan account T Ltd 53 400 Ð


Provisional tax payments 14 000 17 000


Cash in bank 69 000 Ð

691 800 452 600

188ACN202R/1

J Ltd T Ltd

Credits R R


6% Cumulative preference shares of R1 each 10 000 80 000

Share premium 32 000 Ð



Loan account J Ltd Ð 50 000



Tax payable 25 000 16 000

691 800 452 600


J Ltd T Ltd

R R


Expenses (36 800) (29 000)



Staff cost 15 000 13 000

Interest on debentures Ð 3 000

Interest on bank overdraft Ð 1 600

69 500 68 900

Other income 10 600 Ð

Interest received on debentures 1 200 Ð

Preference dividends received 2 400 Ð

Ordinary dividends received 7 000 Ð






189ACN202R/1


Ordinary share 6% Cumulative Share Retained Total

capital preference shares premium earnings

J Ltd T Ltd J Ltd T Ltd J Ltd T Ltd J Ltd T Ltd J Ltd T Ltd

R R R R R R R R R R

Balance at 31 December 19.2 320 000 100 000 10 000 80 000 32 000 Ð 95 950 42 000 457 950 222 000


Ordinary dividend paid (20 000) (10 000) (20 000) (10 000)

Preference dividend paid (600) (4 800) (600) (4 800)

Balance at 31 December 19.3 320 000 100 000 10 000 80 000 32 000 Ð 130 450 80 100 492 450 260 100


1. At 1 January 19.1 J Ltd acquired 70 000 ordinary shares and 40 000 6% cumulative preference shares in T Ltd. All the assets and liabilitieswere considered to be reasonably valued with the exception of the land and buildings, which were valued at R250 000. No purchases or salesof land and buildings have taken place since then.No adjustment has yet been made in respect of this.

2. At the date of acquisition the subsidiary had retained earnings of R8 000. The preference dividend for 19.0 was in arrears.

3. J Ltd supplied goods to its subsidiary at cost plus 20%. Particulars of goods supplied to T Ltd by J Ltd during the year ended 31 December19.3 were as follows:

RInventories 1 January 19.3 12 000Purchases during the year 120 000Inventories at 31 December 19.3 4 800

On 27 December 19.3 J Ltd sent goods to T Ltd which were invoiced at R1 800. However, these goods were received by T Ltd on 5 January19.4 and were therefore not taken into inventories at 31 December 19.3.

4. T Ltd sent R1 600 to J Ltd on 28 December 19.3. This amount was only received and banked by J Ltd on 4 January 19.4.

5. J Ltd sold certain machinery to T Ltd at a price of R10 000 above the carrying amount after the date of acquisition of its interest in T Ltd. T Ltdprovides for depreciation on machinery at 20% per annum on cost price, based on the assumption that the machine will still have five years ofservice left as from the date of purchase, namely 1 January 19.2.

6. The cost price of the patents are as follows:R

J Ltd 10 000T Ltd 12 000

7. Each share carries one vote.

19

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/1

REQUIRED

Draft the consolidated financial statements of J Ltd and its subsidiary T Ltd for the year

ended 31 December 19.3 in compliance with the requirements of the Companies Act,

1973 and Generally Accepted Accounting Practice. Ignore taxation on unrealised profits

and/or losses as well as capital gains tax.

Solut ion

Quest ion 1

K LTD AND ITS SUBSIDIARYCONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT28 FEBRUARY 19.2

R

ASSETS


Property, plant and equipment [80 000 + 75 000 + 20 000 (revaluation)

7 2 500(5)] 172 500

Goodwill (6 280 + 4 360)(1) 10 640



Inventories (15 000 + 19 000 7 1 250(4)) 32 750





Equity attributable to the owners of the parent 192 060

Share capital (R100 000 + 40 000) 140 000

Retained earnings

(45 000 7 2 500(5) + 8 920(2) + 640(2)) 52 060

Non-controlling interest (29 910 + 13 920)(3)/(a) 43 830

Current liabilities



191ACN202R/1

Calculations


Ordinary sharesK Ltd 80% Non-

controlling

TotalAt

acquisitionSince

acquisitioninterest

20%


Ordinary share capital 80 000 64 000 16 000

Share premium 20 000 16 000 4 000



Given 20 000

Arrear preference dividends 19.1 (1 600)

138 400 110 720 27 680


Goodwill 6 280(1)

Current year


Given 34 000

At acquisition (20 000)

Arrear preference dividends 19.2 (1 600)

Unrealised profit in closinginventories (331

3 /13313 6 5 000) (1 250)(4)

149 550 8 920(2) 29 910(3)

* 32;00040;000 6 100% = 80%


TotalAt

acquisitionSince


interest

40% 60%


Preference share capital 20 000 8 000 12 000

Arrear preference dividend 19.1 1 600 640 960

21 600 8 640 12 960


Goodwill 4 360(1)


Arrear preference dividend 19.2 1 600 640 960

23 200 640 13 920(3)

* 8;00020;000 6 100% = 80%

192ACN202R/1

2. Profit on sale of non-depreciable asset

Cost price R10 000

Profit 25%

Profit to be eliminated 10 000 x 25% = R2 500(5)


control-ling

Dr Cr interest

R R R

Land and buildings Ð L Ltd 20 000Revaluation reserve 20 000

Recording of the revaluation of land and buildingsin L Ltd

Share capital Ð ordinary shares 80 000Share premium 20 000Revaluation reserve 20 000Retained earnings 18 400Goodwill 6 280

Investment in L Ltd 117 000Non-controlling interest 27 680 27 680

Elimination of shareholders' equity ofL Ltd at acquisition

Cost of sales Ð L Ltd 1 250Inventories Ð K Ltd 1 250

Elimination of unrealised profit on closing inven-toryProfit on sale of property Ð K Ltd 2 500

Property Ð L Ltd 2 500Elimination of unrealised profit included inL Ltd's property

Bank Ð L Ltd (cash in transit) 4 000Loan K Ltd Ð L Ltd 4 000

Recording of cash in transit from K Ltd to L Ltd

Loan L Ltd Ð K Ltd 16 000Loan K Ltd Ð L Ltd 16 000

Elimination of intercompany loan accounts

Retained earnings 2 230Non-controlling interest (SFP) 2 230 2 230

Recording of non-controlling interest in profit/(loss)

Share capital Ð preference shares 20 000Retained earnings 1 600Goodwill 4 360

Investment in L Ltd 13 000Non-controlling interest 12 960 12 960

Elimination of shareholders' equity of L Ltd atacquisition Ð preference shares

Retained earnings Ð preference shares 960Non-controlling interest 960 960

Recording of non-controlling interest in preferencedividends for the period ended 28 February 19.2

43 830(a)

193ACN202R/1

Solut ion

Quest ion 2

P LTD AND ITS SUBSIDIARY


ASSETS R

Non-current assets 1 126 750

Property, plant and equipment [(600 000 + 160 000 + 60 000) + 1 051 750

(300 000 + 180 000 7 40 000) ± (128 000 + 94 000 7 5 000(4)

7 8 750(5))]

Goodwill(6) 75 000


Inventories (100 000 + 80 000 + 20 000 7 24 000) 176 000





Total equity 1 215 250


Share capital (200 000 + 80 000) 280 000







Tax payable (190 000 + 170 000 ± 100 000 ± 90 000) 170 000




R



Profit for the period 632 750





Non-controlling interest (113 800 + 7 500)(2)/(b) 121 300

632 750




632 750

194ACN202R/1




Ordinary 15% Cum.

share preference Share Retained


capital shares premium earnings Total

interest equity

R R R R R R R

Balance at 30 June 19.8 200 000 80 000 40 000 164 800* 484 800 169 200(a) 654 000


Ordinary dividend paid (40 000) (40 000) (12 000)(c) (52 000)

Preference dividend paid (12 000) (12 000) (7 500)(d) (19 500)

Balance at 30 June 19.9 200 000 80 000 40 000 624 250 944 250 271 000(e) 1 215 250

(150 000 + 49 800(1) 7 40 000(3) + 5 000(4))

Calculations

1. Analysis of shareholders equity of D Ltd

Ordinary sharesP Ltd 60% Non-

controlling

TotalAt

acquisitionSince

acquisitioninterest

40%


Ordinary share capital 100 000 60 000 40 000


Share premium 20 000 12 000 8 000

Revaluation of reserve 60 000 36 000 24 000

215 000 129 000 86 000

Investment in D Ltd 204 000

Goodwill 75 000(6)


Retained earnings(118 000 ± 35 000) 83 000 49 800(1) 33 200

Current year


Profit after tax (486 000 ± 170 000) 316 000

Unrealised profit in inventories(120 000 6 25

125 ) (24 000)

Preference dividend (7 500)

Dividends paid ± oridnary (30 000) (18 000) (12 000)

552 500 202 500 221 000(7)

R

* P Ltd paid 204 000

Goodwill (75 000)

60% investment 129 000

129 000 7 (60 000+ 21 000 + 12 000) = 36 000 (60%)36 00060 6 100 = 60 000

195ACN202R/1


TotalAt

acquisitionSince


interest

0% 0% 100%


Preference share capital 50 000 Ð Ð 50 000

Current year

Profit attributable to preference

shares 7 500 7 500(2)

Dividend paid ± preference (7 500) (7 500)

50 000 Ð Ð 50 000(7)

2. Profit before tax R

Profit Ð P Ltd 540 000

Dividends received from D Ltd (30 000 6 60%) (18 000)

Adjustment for depreciation (calculation 3) 8 750

Profit Ð D Ltd 486 000

Unrealised profit in closing inventories (24 000)

992 750

3. Depreciation

Profit 2 January 19.8 40 000(3)

Depreciation adjustment in 19.8 (40 000 x 612 x 25%) (5 000)(4)

35 000

Depreciation adjustment in 19.9 (35 000 x 25%) (8 750)(5)

4. Journal entries

Non-

controlling

Dr Cr interest

R R R

Land and buildings Ð D Ltd 60 000



buildings in D Ltd





Goodwill 75 000

Investment in D Ltd 204 000


Elimination of shareholders' equity of D Ltd at

acquisition



Recording of non-controlling interest in retained

earnings for the period ended 30 June 19.8

196ACN202R/1

Non-

controlling

Dr Cr interest

R R R



Elimination of shareholders' equity of D Ltd at

acquisition Ð preference shares

169 200(a)

Inventories Ð P Ltd 20 000

Loan account D Ltd Ð P Ltd 20 000

Recording of inventories sent to P Ltd

Cost of sales Ð D Ltd 24 000

Inventories Ð P Ltd 24 000

Elimination of unrealised profit on closing

inventory

Profit on sale of machinery Ð P Ltd 40 000

Machinery Ð D Ltd 40 000

Elimination of unrealised profit included in

D Ltd's machinery

Accumulated depreciation Ð D Ltd 13 750

Retained earnings Ð P Ltd 5 000

Depreciation Ð P Ltd 8 750

Elimination of the depreciation associated

with the profit on sale of machinery

Loan D Ltd Ð P Ltd 140 000

Loan P Ltd Ð D Ltd 140 000





after tax

Dividends received Ð P Ltd 18 000


Ordinary dividends paid Ð D Ltd 30 000

Elimination of intercompany dividends and


ordinary dividends

Dividends received Ð P Ltd NIL

Non-controlling interest (SFP) 7 500 (7 500)(d)

Preference dividends paid Ð D Ltd 7 500



preference dividends

Retained earnings Ð preference shares 7 500

Non-controlling interest 7 500 7 500(b)


preference dividend for the period ended

30 June 19.9

271 000(e)

197ACN202R/1

Solut ion

Quest ion 3



R

ASSETS


Property, plant and equipment [(150 000 + 250 000) + 564 000

298 400 (calculation 4) ± 151 500 (calculation 4) + (7 600 + 9 500)]

Goodwill (3 760(2) + 7 600(2)) 11 360


Inventories [62 000 + 62 000 + 1 800 (in transit) 71 100 (unrealised profit)] 124 700


Cash and cash equivalents [69 000 + 1 600 (in transit)] 70 600





Share capital (320 000 + 10 000) 330 000










Tax payable (25 000 + 16 000 7 14 000 7 17 000) 10 000




Note R

Gross profit (calculation 2) 205 100

Administrative expenses [2 000 + 1 000 + 19 800 + 10 400 ±

(10 000 6 20%) + 15 000 + 13 000] (59 200)

Finance costs [3 000 + 1 600 ± (3 000 6 40%)] (3 400)






198ACN202R/1



Non-controlling interest (14 430 + 2 400)(1)/(b) 16 830

101 500




101 500


NOTES FOR THE YEAR ENDED 31 DECEMBER 19.3R



Expenses


Depreciation

[19 800 + 10 400 ± (10 000 6 20%)] 28 200

Staff cost (15 000 + 13 000) 28 000




Ordinary 15% Cum.

share preference Share Retained


capital shares premium earnings Total

interest equity

R R R R R R R

Balance at 31 December 19.2 320 000 10 000 32 000 110 710* 472 710 103 600(a) 576 310


Ordinary dividend paid (20 000) (20 000) (3 000)(c) (23 000)

Preference dividend paid (600) (600) (2 400)(d) (3 000)

Balance at 31 December 19.3 320 000 10 000 32 000 174 780 536 780 115 030(e) 651 810

199ACN202R/1

Calculations:

1. Analysis of shareholders equity of T Ltd

Ordinary shares J LtdNon-

TotalAt

acquisitionSince


interest

70% 30%


Share capital 100 000 70 000 30 000


Retained earnings 3 200 2 240 960

Given 8 000

Preference dividend (4 800)

173 200 121 240 51 960

Investment in T Ltd 125 000

Goodwill 3 760(2)


Retained earningsGiven (42 000 ± 3 200) 38 800 27 160(3) 11 640

Current year

Profit after tax and preferencedificend (52 900 ± 4 800) 48 100 33 670 14 430(1)

Ordinary dividend paid (10 000) (7 000) (3 000)

250 100 53 830 75 030(4)

Cumulative preference shares J LtdNon-

TotalAt

acquisitionSince


interest

50% 50%


Share capital 80 000 40 000 40 000

Arrear preference dividend1/1/19.0 4 800 2 400 2 400

84 000 42 400 42 000


Goodwill 7 600 (2)


Arrear preference dividend paid (4 800) (2 400) (2 400)

Current year

Profit attibutable to preferenceshares 4 800 2 400 2 400(1)

Preference dividend paid (4 800) (2 400) (2 400)

80 000 (2 400) 40 000(4)

200ACN202R/1

2. Gross profit

R

Profit Ð J Limited 106 300

Ð T Limited 97 900

Unrealised profit in opening inventories (12 000 x 20120 ) 2 000

Unrealised profit in closing inventories [(4 800 + 1 800) x 20120 ] (1 100)

205 100

3. Retained earnings beginning of year

Retained earnings Ð J Limited 95 950

Ð T Limited(3) 27 160

Profit on sale of machinery (10 000)

Depreciation adjustment on machinery sold 2 000

(10 000 x 20% x 1 year)

Unrealised profit in opening inventories (2 000)

Arrear preference dividend at acquisition received (2 400)

110 710

4. Machinery

R

Cost price Ð J Limited 128 400

Ð T Limited 180 000

Ð Profit on sale (10 000)

298 400

Accumulated depreciation Ð J Limited 59 600

Ð T Limited 95 900

Ð Depreciation on machinery sold

Ð 19.2 (2 000)

Ð 19.3 (2 000)

151 500


controlling

Dr Cr interest

R R R

Land and buildings Ð T Ltd 70 000



buildings in D Ltd




Goodwill 3 760



Elimination of shareholders' equity of T Ltd at

acquisition

201ACN202R/1

Non-

controlling

Dr Cr interest

R R R




retained earnings for the period ended

31 December 19.2



Goodwill 7 600



Elimination of shareholders' equity of T Ltd at

acquisition Ð Preference shares




preference dividends for the period ended

31/12/19.2 Ð Preference shares 103 600(a)

Income Ð sales Ð J Ltd 120 000

Cost of sales Ð T Ltd 120 000


Inventories Ð T Ltd 1 800

Loan account J Ltd 1 800

Recording of inventories sent to P Ltd

Cost of sales Ð J Ltd 1 100

Inventories Ð T Ltd 1 100

Elimination of unrealised profit on closing

inventory

Retained earnings Ð J Ltd 2 000

Cost of sales Ð J Ltd 2 000

Elimination of unrealised profit on opening

inventory

Bank Ð Cash in transit Ð J Ltd 1 600

Loan account T Ltd Ð J Ltd 1 600

Recording of cash sent by T Ltd to J Ltd

Profit on sale of machinery Ð J Ltd 10 000

Machinery Ð T Ltd 10 000

Elimination of unrealised profit included in

T Ltd's machinery

Accumulated depreciation Ð T Ltd 4 000

Retained earnings Ð J Ltd 2 000

Depreciation Ð J Ltd 2 000

Eliminate the depreciation associated with

the profit on sale of machinery

Loan J Ltd Ð T Ltd 51 800

Loan T Ltd Ð J Ltd 51 800


202ACN202R/1

Non-

controlling

Dr Cr interest

R R R

6% Debentures Ð T Ltd 20 000

6% Debentures Ð J Ltd 20 000


Interest on debentures received Ð J Ltd 1 200

Interest on debentures paid Ð T Ltd 1 200

Elimination of intercompany interest on

debentures




after tax



Ordinary dividends paid Ð T Ltd 10 000



ordinary dividends


Non-controlling interest (SFP) 2 400 (2 400)(d)

Preference dividends paid Ð T Ltd 4 800



preference dividends




preference dividends for the preference

shares

115 030(e)

SELF -ASSESSMENT


. calculate the parent's percentage interest in the preference share capital of the

subsidiary?

. record any preference dividends paid or declared by a subsidiary in consolidated

annual financial statements?

. record arrear cumulative preference dividends payable/paid by a subsidiary in



203ACN202R/1

TOPIC B

STATEMENT OF CASH FLOWSSTATEMENT OF CASH FLOWS(IAS 7/AC 118(IAS 7/AC 118))

Learning outcome

Learners should be able to draft a statement of cash flows for a company as well asa close corporation on the direct and the indirect method according to IAS 7/AC 118.

205ACN202R/1

CONTENTS

Study unit Page

1 Statement of cash flows 207

206ACN202R/1

STUDY UNIT

1Statement of cash flows

Learning outcome

Learners can draft a statement of cash flows for companies and close corporationsaccording to the direct and indirect method.

OVERVIEW


Page

Key concepts 207



1.2 Purpose and presentation of statement of cash flows 208

1.3 Elements and framework of statement of cash flows 209

1.4 Exercises 220

Solutions 225

Self-assessment 231

KEY CONCEPTS

. Cash

. Cash flow equivalents

. Cash flow

. Operating activities

. Investing activities

. Financing activities

207ACN202R/1

ASSESSMENT CRITERIA

After having studied this topic you should be able to:

. draft a statement of cash flows for a company and a close corporation using the

direct method


indirect method

1.1 INTRODUCTION

In Accounting I you were introduced to company annual financial statements. You studied

aspects such as statement of financial position and statement of comprehensive income. In

Accounting II you will be studying the above aspects in greater detail and you will be acquiring

knowledge of Generally Accepted Accounting Practice (hereafter called GAAP). Statements of

GAAP are being formulated by the South African Institute of Chartered Accountants and

approved by the Accounting Practices Board and will form part of your study material in future.

According to the Companies Act 61 of 1973 a company's annual financial statements have to

be drawn up in accordance with Generally Accepted Accounting Practice (GAAP) as well as

the specific requirements of schedule 4.

Although the sections of the Companies Act of 1973 and all the paragraphs of schedule 4 are

very important for your studies, you are not expected to read them all. In order to cover the

ground thoroughly, we shall, however, refer to them from time to time in the study guide.

Cash flow information involves the meaningful presentation of the cash generated and applied

by the entity. This information is presented in the form of a statement of cash flows to the

readers of financial statements.

A complete set of financial statements comprises:

. statement of financial position

. statement of comprehensive income

. statements of changes in equity

. statement of cash flows

. notes

Users of financial statements are interested in the information on cash flow which can be

derived from this statement. As the name indicates, this statement has to do with the cash flow

in an enterprise and all items in the annual financial statements which have nothing to do with

the cash flow are omitted when the statement of cash flows is compiled.

1.2 PURPOSE AND PRESENTATION OF STATEMENT OFCASH FLOWS

The aim of the statement of cash flows is to furnish information to the various users of financial

statements. Each enterprise presents its cash flow from operations, investment and financing

in the way most suitable for its business.

The following would be a logical presentation:

208ACN202R/1

. Net cash flow from operating activities

Ð Cash receipts from customers

Ð Cash paid to suppliers and employees

Ð Investment income

Ð Interest paid

Ð Tax paid

Ð Dividends paid

. Net cash flow from investing activities

. Net cash flow from financing activities

. Net change in cash and cash equivalents

Operating activities are the principal income-producing activities of the enterprise, apart from

other activities which are not investing or financing activities.

Investing activities are the acquisition and sale of non-current assets and other investments

which are not included in cash flow equivalents.

Financing activities are activities which result in changes in the size and composition of the

equity capital and loans to the enterprise.

1.3 ELEMENTS AND FRAMEWORK OF STATEMENT OFCASH FLOWS

The elements of a statement of cash flows, are

. operating activities

. investing activities

. financing activities

Operating activities

The amount of cash arising from operating activities is a key indicator of the extent to which the

operations of the entity have generated sufficient cash to repay loans, maintain the operating

capability of the entity, pay dividends and make new investments without recourse to external

financing.

Cash flows from operating activities are primarily derived from the principal revenue-producing

activities of the entity. Therefore, they generally result from the transactions and other events

that is included in the determination of profit or loss. Examples of cash flows from operating

activities are:

. cash receipts from the sale of goods and the rendering of services;

. cash payments to suppliers for goods and services;

. cash payments to and on behalf of employees;

. cash payments and refunds of income taxes

Investing activities

The disclosure of cash flows from investing activities is important because the cash flows

represent the extent to which payments have been made for resources intended to generate

future receipts and cash flows. Examples of cash flows arising from investing activities are:

. cash payments to acquire property, plant and equipment and other non-current assets;

. cash receipts from sales of property, plant and equipment and other non-current assets

209ACN202R/1

Financing activities

The disclosure of cash flows arising from financing activities is important because it is useful in

predicting claims on future cash flows by providers of capital to the entity. Examples of cash

flows arising from financing activities are:

. cash proceeds from issuing shares;

. cash payment to owners to acquire or redeem the entity's shares;

. cash proceeds from issuing debentures, loans, mortgage bonds and current or non-current

borrowings;

. cash repayments of amounts borrowed.

A statement of cash flows can be schematically represented as follows:

STATEMENT OF CASH FLOWS

CASH FLOW FROM

OPERATING ACTIVITIES

Minus

CASH APPLIED IN

INVESTING ACTIVITIES

Plus/Minus

CASH INFLOW/(OUTFLOW) FROM

FINANCING ACTIVITIES

Is represented by or is equal to

net increase/decrease in CASH AND CASH EQUIVALENTS

The statement of cash flows is not compiled from separate transactions. To draft a statement of

cash flows for the year ended 31 December 19.8 we use the following:

. statement of comprehensive income for the year ended 31 December 19.8

. statement of financial position as at 31 December 19.7 and 31 December 19.8

. additional information

Remember that amounts which are not in brackets represent the inflow of cash and

amounts in brackets represent the outflow of cash.

An enterprise should report cash flow from operating activities by using either the direct or the

indirect method.

If the direct method is used the principal categories of gross cash proceeds and gross cash

payments are disclosed.

According to the indirect method profit or loss is adjusted for the effect of non-cash

transactions, and any deferrals or accruals of previous or future operating cash receipts or

payments and income or expenditure items which are related to investment or financing cash

flow.

210ACN202R/1

The only difference between the direct and indirect method lies in the presentation of the

section dealing with cash flow from operating activities. The sections dealing with investing

activities and financing activities are represented in the same format, irrespective of the method

used.

Study the frameworks of the two methods.

FRAMEWORK OF A STATEMENT OF CASH FLOWS IN ACCORDANCEWITH THE DIRECT METHOD

Cash flow from operating activities R R

Cash receipts from customers xxx

Cash paid to suppliers and employees (xxx)

Net cash generated by operations xxx

Interest received xxx

Interest paid (xxx)

Dividends received xxx

Dividends paid (xxx)

Normal tax paid (xxx)

Net cash inflow from operating activities xxx

Cash flow from investing activities

Investment to maintain production capacity (xxx)

Replacement of non-current assets xxx

Investment to expand production capacity (xxx)

Additions to non-current assets xxx

Proceeds from the sale of non-current assets xxx

Net cash outflow from investing activities (xxx)

Cash flow from financing activities

Proceeds from the issue of shares xxx

Proceeds from long-term loans xxx

Redemption of redeemable preference shares (xxx)

Net cash inflow from financing activities xxx

Net increase in cash and cash equivalents xxx

Cash and cash equivalents at beginning of period xxx

Cash and cash equivalents at end of period xxx

211ACN202R/1

FRAMEWORK OF A STATEMENT OF CASH FLOWS IN ACCORDANCEWITH THE INDIRECT METHOD

Cash flow from operating activities R R

Profit before tax xxx

Adjustments for:

Depreciation xxx

Loss on sale of non-current assets xxx

Profit on sale of non-current assets (xxx)

Investment income (xxx)

Interest expense xxx

Operating profit before changes in working capital xxx

Changes in working capital xxx

Decrease/(increase) in inventory xxx

Decrease/(increase) in trade and other receivables xxx

(Decrease)/increase in trade and other payables (xxx)

Cash generated by operations xxx

Interest received xxx

Interest paid (xxx)

Dividends received xxx

Dividends paid (xxx)

Normal tax paid (xxx)

Net cash inflow from operating activities xxx


Investment to maintain production capacity (xxx)

Replacement of non-current assets xxx

Investment to expand production capacity (xxx)

Additions to non-current assets xxx

Proceeds from the sale of non-current assets xxx

Net cash outflow from investing activities (xxx)


Proceeds from the issue of shares xxx

Proceeds from long-term loans xxx

Redemption of redeemable preference shares (xxx)

Net cash inflow from financing activities xxx

Net increase in cash and cash equivalents xxx

Cash and cash equivalents at beginning of period xxx

Cash and cash equivalents at end of period xxx

212ACN202R/1

The following example will be used throughout to illustrate certain aspects of cash flow

information.

The following balances appear in the books of Ross Ltd for the financial year ended 30 June:

19.6 19.5

R R


Plant and machinery 105 000 124 000

Motor vehicles 108 900 67 300

Investments Ð 25 200

Inventory 67 000 50 000


Prepaid expenses 500 2 600

Bank 2 000 Ð

670 800 659 100

Ordinary share capital Ð R1 shares 280 000 250 000


12% Long-term loan Ð 80 000

Surplus from revaluation of land and buildings 15 000 Ð

Reserve for asset replacement 91 000 20 000


10% R200 Debentures 40 000 Ð


Ordinary dividends payable 16 800 Ð


Ð Plant and machinery 27 000 18 000

Ð Motor vehicles 27 200 10 000


Accrued interest 2 000 Ð

Bank overdraft Ð 300

670 800 659 100

ROSS LIMITED

STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED30 JUNE 19.6

R

Revenue 500 000

Cost of sales (250 000)


Other income (3 000 + 2 000) 5 000

Administrative expenses (78 200 + 63 600) (78 200)

Selling expenses (87 400)

Other costs (8 000)

Interest (7 300)


213ACN202R/1


1. The long-term loan bears interest at 12% p.a. and was repaid on 31 December 19.5.

2. Share issue expenses of R1 200 were paid and written off. This write-off was recorded in

such a way as to have the minimum effect on distributable reserves.

3. In December 19.5 a piece of land which cost R15 000 was sold at the carrying amount and

replaced with another piece of land. On 30 June 19.6 the remaining land was revalued.

These were the only transactions in respect of land and buildings for the current financial

year.

4. During the current financial year a machine with a carrying amount of R51 000 was sold at

a loss of R8 000 and replaced with a new machine which cost R62 000. The total

depreciation on plant and machinery for the current financial year amounted to R39 000.

5. A motor vehicle with a cost price of R14 400 and on which depreciation of R7 400 had

already been written off was traded in for R9 000 on a new vehicle which cost R35 000.

6. No other machines or motor vehicles were sold during the year, but one additional motor

vehicle was purchased.

7. The provision for tax for the current financial year was R15 000. This includes an

underprovision of R5 100 for the 19.5 tax year.

8. New shares were issued at a premium on 30 April 19.6.

9. On 31 December 19.5 an interim ordinary dividend of 4c per share was declared and paid.

10. Ordinary dividends of 6c per share were declared on 30 June 19.6.

11. The investments were sold at fair value.

12. During the year, dividends to the value of R3 000 were received.

Cash flow from operating activities (according to the direct method)

Cash receipts from customers

This amount is determined by reconstructing the trade and other receivables account.

Cash receipts from customers

Trade and other receivables

R R

Balance b/d 50 000 Bank* 512 600

Sales 500 000 Balance c/d 37 400

550 000 550 000

* Balancing figure

Cash paid to suppliers and employees

This amount is calculated by comparing the figures for inventory and trade and other payables

as given in the two statement of financial position. If inventory increased from one year to the

next, the effect on cash flow would be negative. If the number of trade and other payables

increased from one year to the next, this means that less cash flowed out and the figure would

then be positive in respect of cash flow. All purchases of inventory and expenses which were

paid for in cash are also included in the calculation.

214ACN202R/1


R R

Balances b/d Balance b/d

Inventory 50 000 Trade and other payables 26 000

Prepaid expenses 2 600 Cost of sales 250 000

Bank* 417 700 Administrative

Balance c/d expenses 78 200

Trade and other payables 38 800 Selling expenses 87 400

Balances c/d

Inventory 67 000

Prepaid expenses 500

509 100 509 100

* Balancing figure

Depreciation to the value of R63 600, does not give rise to a cash flow.

Plant and machinery 39 000 (Given)

Vehicles 24 600 [27 200 ± (10 000 ± 7 400)]

63 600

Cash generated by operations

This amount is obtained by subtracting the cash paid to suppliers and employees from cash

receipts from customers.

Interest paid, dividends received and paid and tax paid

All payments to the SA Revenue Service and to suppliers of funds are normally made from

cash generated by operating activities. Interest paid, tax and dividends paid during a year

should therefore be disclosed separately from cash generated by operating activities.

Dividends paid R

Unpaid amount at beginning of year (statement of financial position 19.5) Ð

Amount debited against income* (total dividends declared for 19.6) 26 800

Unpaid amount at end of year (statement of financial position 19.6) (16 800)

10 000

*Ordinary dividends

Ð Interim (250 000 6 4c) 10 000

Ð Final (280 000 6 6c) 16 800

26 800

Normal tax paid

Unpaid amount at beginning of year (statement of financial position 19.5) 46 600

Amount debited against income (additional information 8) 15 000

Unpaid amount at end of year (statement of financial position 19.6) (23 300)

38 300

We can now complete the section described as cash flow from operating activities according to

the direct method.

215ACN202R/1

Cash flow from operating activities (according to the direct method)

ROSS LTD

STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 30 JUNE 19.6

R RCash flow from operating activities

Cash receipts from customers 512 600

Cash paid to suppliers and employees (417 700)

Cash generated by operations 94 900

Interest paid (7 300 7 2 000) (5 300)



Normal tax paid (38 300)

Net cash inflow from operating activities 44 300

Cash flow from operating activities (according to the indirect method)

When the statement of cash flows is prepared according to the indirect method, you must

ignore the calculations for cash received from customers and cash payments to suppliers and

employees. Cash generated by operations are now calculated by adjusting profit or loss for the

effect of non-cash transactions, and any deferrals or accruals of previous or future operating

cash receipts or payments and income or expenditure items which are related to investment or

financing cash flow. The calculations for interest, dividends and tax remain unaltered,

irrespective of the method used.

Cash flow from operating activities (according to the indirect method):

ROSS LIMITED

STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 30 JUNE 19.6

R R

Cash flow from operating activities


Adjustments for:

Depreciation 63 600

Profit on sale of non-current asset (2 000)

Loss on sale of non-current asset 8 000

Interest expense 7 300

Investment income (3 000)

Operating profit before changes in working capital 84 400

Changes in working capital 10 500

Increase in inventory (50 000 ± 67 000) (17 000)

Decrease in trade and other receivables (50 000 ± 37 400) 12 600

Decrease in prepaid expenses (2 600 ± 500) 2 100

Increase in trade and other payables (38 800 ± 26 000) 12 800


Interest paid (7 300 ± 2 000) (5 300)



Normal tax paid (38 300)


216ACN202R/1


Cash flow which is related to investing activities may include both the inflow and the outflow of

cash. The outflow of cash includes the purchase of assets and investments, and the inflow of

cash includes items such as proceeds from the sale of non-current assets.

As regards the amount of assets purchased, we distinguish between the amount for

replacement and that for addition to assets. Replacement refers to the maintenance of

operations and replacement to the expansion of operations.

. Assets purchased

When the increase in the balance of the accumulated depreciation accounts on the two

statement of financial position is equal to the depreciation in the statement of comprehensive

income then no assets were sold or written off during the year. Any increase in the asset

account (at cost price) can then be directly accounted for as purchases of assets.

. Revaluation of property

Property is quite frequently revalued, and when this happens during a particular financial year it

is handled as described below. The increase in the value of the property has come about as a

result of the revaluation and can be ignored when drafting the statement of cash flows since

there was in fact no flow of cash. The increase in the non-distributable reserve represents the

increase in the value of the property.

. Purchase and sale of assets

If an enterprise has purchased or sold assets during the year it is desirable to reconstruct the

ledger accounts concerned.

Land and buildings

R R

Balance b/d 340 000 Proceeds on sale 15 000

Revaluation# 15 000 Balance c/d 350 000

Replacement* 10 000

365 000 365 000

Balance b/d 350 000

# Increase in balance of surplus on revaluation account

* Balancing figure

Motor vehicles at cost price

R R

Balance b/d 67 300 Cost of trade-in 14 400

Replacement (given) 35 000 Balance c/d 108 900

Addition* 21 000

123 300 123 300

Balance b/d 108 900

* Balancing figure

Accumulated depreciation: Motor vehicles

R R

Accumulated depreciation Balance b/d 10 000

on trade-in 7 400 Depreciation* 24 600

Balance c/d 27 200

34 600 34 600

Balance b/d 27 200

* Balancing figure

217ACN202R/1

Realisation account

R R

Cost price of trade-in 14 400 Accumulated deprecia-

Profit on trade-in 2 000 tion on trade-in 7 400

[(14 400 7 7 400) 7 9 000] Proceeds 9 000

16 400 16 400

Plant and machinery at carrying amount

R R

Balance b/d 106 000 Carrying amount sold 51 000

Replacement (given) 62 000 Depreciation 39 000

Balance c/d 78 000

168 000 168 000

Balance b/d 78 000

Realisation account

R R

Carrying amount sold 51 000 Proceeds on sale 43 000

(51 000 7 8 000)

Loss on sale 8 000

51 000 51 000

We are now able to complete the section described as cash flow from investing activities.

Cash flow from investing activities (both methods)

R R

Investment to maintain production capacity (107 000)

Replacement of land 10 000

Replacement of motor vehicle 35 000

Replacement of machine 62 000

Investment to expand production capacity (21 000)

Addition to motor vehicles 21 000

Proceeds on sale of investments 25 200

Proceeds of sale of land 15 000

Proceeds on sale of motor vehicle 9 000

Proceeds on sale of machine 43 000

Net cash outflow from investment activities (35 800)

Cash flow from financing activities (both methods)

An enterprise must report separately on the main classes of gross cash receipts and gross

cash payments which resulted from financing activities.

The effecting of new loans, the redemption of existing loans and the issue of shares are usually

derived from the given statement of financial position.

19.6 19.5 Change

R R R

10% R200 Debentures 40 000 Ð 40 000

Long-term loan Ð 80 000 80 000

Ordinary share capital Ð R1 shares 280 000 250 000 30 000

218ACN202R/1

The ordinary share capital increased by R30 000. The total amount received upon issue of the

ordinary shares was therefore R30 000 + R5 000 = R35 000. The share issue expenses

amounted to R1 200 (additional information (2)) and this sum is deducted, which leaves us with

net proceeds of R33 800.

To complete the picture, we can now reconcile the share premium account as well.

Share premium

R R

Share issue expenses Balance b/d 8 200

written off 1 200 Bank* 5 000

Balance c/d 12 000

13 200 13 200

Balance b/d 12 000

* Balancing figure

We can now complete the section which deals with cash flow from financing activities.

Cash flow from financing activities (both methods)

R R

Proceeds from debentures issued 40 000

Payment on redemption of long-term loan (80 000)

Proceeds on issue of shares (35 000 ± 1 200) 33 800

Net cash outflow from financing activities (6 200)

Net change in cash and cash equivalents

The net effect of the first three sections of the statement of cash flows produced the net

change.

R


Net cash outflow from investing activities (35 800)


Net increase in cash and cash equivalents 2 300

Cash and cash equivalents beginning of year (300)

Cash and cash equivalents end of year 2 000

219ACN202R/1

1.4 EXERCISES

Question 1

The condensed trial balances of A Ltd at 31 October 19.3 and 19.2 are as follows:

19.3 19.2

Debits R R

Property 1 750 000 1 400 000


Machinery 385 000 370 000

Inventory 178 000 154 000


Cash in bank Ð 76 000

Other financial assets: Investments at fair value 20 000 40 000

2 983 000 2 670 000

Credits

Ordinary share capital 400 000 300 000


Revaluation of property 200 000 Ð



Interest free loan 900 000 1 100 000

Accumulated depreciation Ð Motor vehicles 76 000 54 000

Ð Machinery 141 000 120 000




Dividends payables (ordinary) 24 000 16 000

2 983 000 2 670 000


1. The following information was obtained from the statement of comprehensive income for

the year ended

31 October 19.3:

R

Revenue 750 000



Other income 4 000

Administrative and selling expenses (88 000 + 48 000 + 72 000) (208 000)

Other expenses (6 000)





Profit on revaluation of land 204 000


220ACN202R/1

2. Extract from the statement of changes in equity for the year ended 31 October 19.3

Reserve

for asset Retained

replace- earnings Total

ment

R R R


Dividends declared (24 000) (24 000)

Transfer to reserve 10 000 (10 000) Ð

3. A new motor car was purchased for R54 000. An old vehicle was sold at its carrying

amount on 31 October 19.3.

4. A machine with a carrying amount of R60 000 and on which R51 000 had already been

written off in depreciation was traded in for R54 000 and replaced with a new machine.

5. Depreciation for the current year R

Vehicles 48 000

Machinery 72 000

6. The investment was sold on 28 February 19.3 for R24 000.

REQUIRED

Draft the statement of cash flows of A Ltd for the year ended 31 October 19.3 in

accordance with the requirements of the Companies Act, 1973 and Generally Accepted

Accounting Practice, using the direct method. Ignore comparative figures, but show the

following calculations:

1. Cash receipts from clients

2. Cash paid to suppliers and employees

3. Tax paid

4. Dividends paid

221ACN202R/1

Question 2

The following information was derived from the books of B Ltd:

TRIAL BALANCE AT 28 FEBRUARY

19.5 19.4

R R

Land and buildings at valuation 240 000 200 000

Machinery at cost price 14 800 52 300

Investments Ð 2 400

Inventory 15 000 19 000


Bank 8 000 14 000

295 800 303 100

Issued ordinary share capital 100 000 100 000

Interest free long-term loan 40 000 50 000




Dividends payables 20 000 10 000

Accumulated depreciation Ð machinery 3 400 4 800

Allowance for credit losses 1 000 1 200



295 800 303 100


1. The following information was derived from the statement of comprehensive income for the


R

Revenue 179 500



Other income (1 000 + 200) 1 200

Administrative and selling expenses (48 000 + 42 600) (90 600)

Other expenses (400)




Other comprehensive income

Profit on revaluation of land 40 000


222ACN202R/1

2. Extract from the statement of changes in equity for the year ended 28 February 19.5

Reserve for

asset Retained

replacement earnings Total

R R R

Balance at 28 February 19.4 15 000 107 000 122 000


15 000 115 000 130 000

Dividend declared (50 000) (50 000)


Balance at 28 February 19.5 19 500 160 500 80 000

3. The company grew rapidly during the year and unless otherwise indicated all assets were

purchased for the purposes of expanding the enterprise. The following transactions took

place during the year ended 28 February 19.5:

3.1 New machinery to the value of R8 000 was purchased during the year to replace the

obsolete machinery. The cost price of the old machinery was R45 500 and it was

resold for R2 500. The accumulated depreciation on the machinery that was sold was

R44 000.

3.2 The company's investments were sold during the year for R2 000.

REQUIRED

Draft the statement of cash flows for B Ltd for the financial year ended 28 February 19.5 to

comply with the requirements of the Companies Act, 1973 and Generally Accepted

Accounting Practice using the indirect method. Ignore comparative figures, but show the

following calculations:

1. Tax paid

2. Dividends paid

223ACN202R/1

Question 3

The following represent the trial balances of W Close Corporation at 31 December 19.1 and

19.2 after all the closing entries have been correctly recorded.

19.2 19.1

R R

Credits

Members' contributions 120 000 90 000

Non-distributable reserve

Ð Revaluation of land and buildings 40 000 Ð


5% Debentures of R100,00 each 40 000 50 000

Loan from Mr B 15 000 9 000

Accumulated depreciation Ð motor vehicles 35 500 20 000



Distribution payable to members 9 300 4 900

358 100 255 500

Debits


Land and buildings at valuation 180 000 100 000

Other financial assets: Investments Ð listed 14 000 18 000



Loan to Mr A 11 000 11 000

Tax receivable 8 700 8 500

Bank 900 Ð

358 100 255 500


1. On 1 January 19.2 the existing members, namely Mr A and Mr B, admitted a new member,

Mr C, to the close corporation.

2. R6 000 of the profit from the 19.2 financial year was distributed between the members in

equal shares.

3. SA Normal tax for the year 19.2 amounts to R7 000 and consists of the current tax of

R8 000 and an overprovision of R1 000 for the previous year.

4. During the year a delivery vehicle with a book value of R12 000 was written off in an

accident and replaced with a new delivery vehicle. The original cost price of the vehicle that

was written off was R20 000.

5. Additions were made to buildings in order to increase the production capacity of W Close

Corporation.

6. On 1 January 19.2 100 debentures were redeemed at R103,00 each. The premium paid

for redemption was written off against income.

7. A listed investment the cost price of which was R4 000 was sold for R12 000. Dividends

received on listed investments amount to R1 800.

224ACN202R/1

8. Loans to and from members bear interest calculated at 15% per annum on opening

balances. On 31 December 19.2 Mr B made an additional loan of R6 000 to the close

corporation. All interest paid or received was correctly calculated and recorded in the

statement of comprehensive income.

9. The following balances were taken from the books at 31 December 19.2:

R

Sales 177 400

Cost of sales 100 000

Administrative expenses 10 800

REQUIRED

Draw up the statement of cash flows (using the direct method) of W Close Corporation for

the year ended 31 December 19.2 in accordance with Generally Accepted Accounting

Practice. Ignore comparative figures.

Solut ions

Quest ion 1

A LTD

STATEMENT OF CASH FLOWS FOR THE YEAR ENDED31 OCTOBER 19.3

R R


Cash receipts from customers 756 000

Cash paid to suppliers and employees (415 000)

Net cash generated by operations 341 000


Tax paid (69 000)




Replacement of machinery 126 000

Replacement of motor vehicle 54 000


Additions to property 150 000

Proceeds from sale of motor vehicles (28 000 ± 26 000) 2 000

Proceeds from sale of machinery (60 000 7 6 000) 54 000

Proceeds from sale of investments 24 000



Proceeds from issue of ordinary shares 110 000

Repayment of long-term loan (200 000)


Net decrease in cash and cash equivalents (84 000)

Cash and cash equivalents beginning of year 76 000

Cash and cash equivalents end of year (8 000)

225ACN202R/1

Calculations

1. Cash receipts from customers


R R

Balance b/d 220 000 Bank* 756 000


970 000 970 000

* Balancing figure



R R

Balance (inventory) b/d 154 000 Balance (Trade and other

Bank* 415 000 payables) b/d 142 000

Balance (trade and other Cost of sales 300 000

payables) c/d 139 000 Administrative &

selling expenses 88 000

Balance (inventory) c/d 178 000

708 000 708 000

* Balancing figure

3. Tax paid

Unpaid amounts beginning of year 28 000

Amounts debited to income 85 000

Unpaid amounts end of year (44 000)

69 000

4. Dividends paid


Amounts debited to income 24 000


16 000

5. Ledger accounts

Property

R R

Balance b/d 1 400 000 Balance c/d 1 750 000

Revaluation 200 000

Purchases 150 000

1 750 000 1 750 000

Motor vehicles at cost

R R

Balance b/d 410 000 Sales* 28 000

New purchases 54 000 Balance c/d 436 000

464 000 464 000

* Balancing figure

226ACN202R/1

Accumulated depreciation Ð motor vehicles

R R

Sales* 26 000 Balance b/d 54 000

Balance c/d 76 000 Depreciation 48 000

102 000 102 000

* Balancing figure

Machinery at cost

R R

Balance b/d 370 000 Sales (60 000 + 51 000) 111 000

New purchases* 126 000 Balance c/d 385 000

496 000 496 000

* Balancing figure

Accumulated depreciation Ð machinery

R R

Sales 51 000 Balance b/d 120 000

Balance c/d 141 000 Depreciation 72 000

192 000 192 000

227ACN202R/1

Solut ion

Quest ion 2

B LTD

STATEMENT OF CASH FLOWS FOR THE YEAR ENDED28 FEBRUARY 19.5

R R



Adjustments for:

Depreciation 42 600

Decrease in allowance for credit losses (200)

Profit on sale of non-current assets (1 000)

Loss on sale of investments 400

Operating profit before changes in working capital 55 300

Changes in working capital (2 500)

Decrease in inventory (15 000 7 19 000) 4 000

Increase in trade and other receivables (18 000 7 15 400) (2 600)

Decrease in trade and other payables (7 400 7 11 300) (3 900)

Net cash generated by operations 52 800


Tax paid (5 300)




Replacement of machinery 8 000

Proceeds from sale of non-current assets 2 500




Redemption of long-term loan (10 000)


Net decrease in cash and cash equivalents (6 000)

Cash and cash equivalents beginning of year 14 000

Cash and cash equivalents end of year 8 000

Calculations

1. Tax paid

R


Amount debited to income 5 500


5 300

2. Dividends paid


Amount debited to income 50 000


40 000

228ACN202R/1

3.Machinery

R R

Balance b/d 52 300 Sales 45 500

New purchases* 8 000 Balance c/d 14 800

60 300 60 300

* Balancing figure

4.Accumulated depreciation Ð machinery

R R

Sales 44 000 Balance b/d 4 800

Balance c/d 3 400 Depreciation current year 42 600

47 400 47 400

Question 3

W CLOSE CORPORATION

STATEMENT OF CASH FLOWS FOR THE YEAR ENDED31 DECEMBER 19.2

R R


Cash receipts from clients (calculation 1) 169 400


(calculation 2) (100 000)


Interest received (calculation 3) 1 650

Interest paid (calculation 4) (3 350)


Distributions paid to members (calculation 5) (1 600)

Normal tax paid (calculation 6) (7 200)




Replacement of motor vehicle (calculation 7) 45 500


Additions to land (calculation 7) 40 000




Decrease in long-term loan (calculation 8) (4 300)

Increase in members' contributions 30 000

Net cash inflow from financing activities 25 700

Net increase in cash and cash equivalents 12 900

Cash and cash equivalents beginning of year (12 000)

Cash and cash equivalents end of year 900

229ACN202R/1

Calculations

1. Cash receipts from clients


R R

Balance b/d 16 000 Bank* 169 400


193 400 193 400

* Balancing figure


R R

Balance (inventories) b/d 42 000 Balance (trade and other

Bank* 100 000 payables) b/d 16 700

Balance (trade and other Cost of sales 100 000

payables) c/d 19 500 Administrative expenses 10 800

Balance (inventories) c/d 34 000

161 500 161 500

* Balancing figure

3. Interest received R

Mr A Ð 15% 6 11 000 1 650

4. Interest paid

Interest on debentures (5% 6 40 000) 2 000

Interest paid to Mr B (15% 6 9 000) 1 350

5. Distributions paid to members

Unpaid at beginning of year 4 900

Amount debited to profit 6 000

Unpaid at end of year (9 300)

1 600

6. Tax paid

Paid in advance at beginning of year (8 500)

Amount debited to profit 7 000

Paid in advance at end of year 8 700

7 200

7. Ledger accounts

Land and buildings

R R

Balance b/d 100 000 Balance c/d 180 000

Revaluation 40 000

Addition* 40 000

180 000 180 000

230ACN202R/1

Motor vehicles

R R

Balance b/d 60 000 Vehicle scrapped 20 000

Replacement* 45 500 Balance c/d 85 500

105 500 105 500


R R

Vehicle scrapped 8 000 Balance b/d 20 000

Balance c/d 35 500 Depreciation* 23 500

43 500 43 500

* Balancing figure

8. Decrease in long-term loan R

Redemption of debentures (100 6 103) (10 300)

Increase in loan from member (15 000 7 9 000) 6 000

(4 300)

SELF -ASSESSMENT

After studying this topic, are you able to:


direct method?


indirect method?

231ACN202R/1

TOPIC C

EARNINGS PER SHAREEARNINGS PER SHARE(IAS 33/AC 104(IAS 33/AC 104))

Learning outcome

Learners should be able to calculate and disclose earnings and dividends pershare in accordance with IAS 33/AC 104.

233ACN202R/1

CONTENTS

Study unit Page

1 Earnings per share 235

234ACN202R/1

STUDY UNIT

1Earnings per share

Learning outcome

. Learners can calculate earnings and dividends per share.

. Learners can disclose earnings and dividends per share.

OVERVIEW


Page

Key concepts 236



1.2 Scope 237

1.3 Definitions and measurement 237

1.4 Presentation 241

1.5 Disclosure 241

1.6 Different classes of shares 241

. Participating preference shares 241

1.7 Changes in capital structure 244

1.7.1 Shares issued for consideration 244

. Shares issued at fair market value 246

. Shares issued for the acquisition of an asset 247

. Business combination which is an acquisition 248

. Rights issue at fair value 250

1.7.2 Shares issued for no consideration 252

. Bonus issue/Capitalisation issue 253

235ACN202R/1

. Share and capitalisation issue 254

. Rights issue at less then fair value 255

. Share split 259

. Share consolidation 262

1.8 Headline earnings 264

1.9 Dividends per share 266

1.10 Exercises 269

Solutions 271

Self-assessment 274

KEY CONCEPTS

. Earnings per share

. Dividend per share

. Equity shares

. Earnings

. Share issues

. Rights issues

. Fair value

. Capitalisation issues

. Share split

. Share consolidation

. Participating shares

. Headline earnings

ASSESSMENT CRITERIA

After studying this topic, you should be able to:

. calculate basic earnings, headline earnings and dividends per share and disclose

them in the annual financial statements according to IAS 33/AC 104.

1.1 INTRODUCTION

Earnings per share and dividends per share are two of the ratios that are most widely used by

investors and analysts of financial statements when evaluating the profitability of a company. It

is therefore essential that guidelines should be laid down for the calculation and disclosure of

earnings and dividends per share and, where applicable, fully diluted earnings per share in

order to make it easier to compare these ratios.

236ACN202R/1

1.2 SCOPE

IAS 33/AC 104 is applicable to:

. companies listed on a recognised stock exchange such as the Johannesburg Stock

Exchange

. other companies whose shares are openly traded, that is unlisted public companies

. companies other than (1) and (2), such as any private company that prefers to disclose

earnings and dividends per share

1.3 DEFINITIONS AND MEASUREMENT

Since the definitions contained in IAS 33/AC 104 are extremely important, you should study

them thoroughly.

Ordinary shares

An ordinary share is an equity instrument that is subordinate to all other classes of equity

instruments.

Section 1 of the Companies Act 1973, defines equity shares of a company as being ``the

company's issued share capital and shares, excluding any part thereof which, neither in

respect of dividends nor in respect of capital, carries any right to participate beyond a specific

amount in a distribution.''

Preference shares that do not share in an asset surplus or dividends over and above their fixed

preference right, do not form part of a company's equity share capital.

Ordinary shares can only participate in the profit for the period after other types of shares, such

as preference shares, have been allocated their portion.

Potential ordinary shares

A potential ordinary share is a financial instrument or other contract that may entitle its holder to

ordinary shares.

Examples of potential ordinary shares are:

. Debt or equity instruments, including preference shares, that are convertible into ordinary

shares.

. Share warrants and options (these are financial instruments that give the holder the right to

purchase ordinary shares).

. Shares which would be issued upon the satisfaction of certain conditions resulting from

contractual arrangements, such as the purchase of a business or other assets.

Basic earnings

Basic earnings are the profit or loss for the period attributable to ordinary shareholders after

deducting preference dividends.

All items of income and expense that are recognised in a period, including tax expense and

non-controlling interests are included in the determination of the profit or loss for the period.

The amount of preference dividends that is deducted from the profit for the period is as follows:

237ACN202R/1

. Cumulative preference dividends

The preference dividends for the current period are taken into account irrespective of

whether or not they are paid or declared. This amount excludes any dividend paid or

declared to cumulative preference shares in respect of previous periods.

. Non-cumulative preference dividends

This preference dividend is only taken into account if the dividend was declared during the

period under review.

Where a loss is incurred for a period, the same calculation is done as for earnings per share.

Example 1

Earnings

The following is an extract from the statement of comprehensive income of a listed company:

R

Profit 89 500

Finance charges (interest paid) (1 500)

Income from associates 4 000


Income tax expense 42 000




The following information was obtained from the statement of changes in equity

Reserve for

asset Retained


R R R


Dividends Ð preference shares (12 000) (12 000)

Ð ordinary shares (10 000) (10 000)

Transfer to reserve 5 000 (5 000)

Balance end of period 5 000 23 000 28 000

Basic earnings are defined and calculated as follows: R

Ð Profit for the year, including significant items 88 000

Ð after tax (42 000)

Ð after fixed preference dividends (12 000)

but

Ð before transfers to and from reserves Ð

and include

Ð attributable profit after tax of associates

and non-consolidated subsidiaries which has been

accounted for by the equity method 4 000

238ACN202R/1

Earnings 38 000

Alternative methods to calculate basic earnings:

(1)


Preference dividends (12 000)

Earnings 38 000

R

(2)

Retained earnings end of year 23 000

Less: Retained earnings beginning of period ( Ð )

Add back: Transfer to reserve 5 000

Ordinary dividends 10 000

Earnings 38 000

Weighted average number of shares

Weighted average number of shares are defined as ``the number of ordinary shares

outstanding at the beginning of the period, adjusted by the number or ordinary shares bought

back or issued during the period multiplied by a time-weighting factor.''

The time weighting factor is the number of days that the specific shares are outstanding as a

proportion of the total number of days in the period. A reasonable approximation of the

weighted average is adequate in many circumstances.

In most cases shares are included in the weighted average number of shares from the date

consideration is receivable (which is generally the date of their issue), for example:

. ordinary shares issued in exchange for cash are included when cash is receivable.

Example 2

The definition given for the weighted average number of shares may be illustrated as follows:

Suppose a company had a 31 December year-end and there are 100 000 issued ordinary

shares at the beginning of 19.1. On 1 April 19.1 a further 50 000 ordinary shares were issued.

Since the shares issued on 1 April 19.1 were only entitled to share in profits from this date

onwards, the weighted average number of shares for 19.1 would be 137 500, calculated as

follows:

Original number of shares 100 000

Shares issued on 1 April 19.1 (50 000 6 9/12) 37 500

137 500

Basic earnings per share

Basic earnings per share should be calculated by dividing the profit or loss for the period

attributable to ordinary shareholders by the weighted average number of ordinary shares

outstanding during the period.

239ACN202R/1

Example 3

CAT LIMITED

STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED31 DECEMBER 19.9

R

Revenue 10 000 000

Cost of sales (5 000 000)

Gross profit 5 000 000

Operating costs (1 000 000)

Income from associates 50 000


Income tax expense (1 350 000)

Current 1 175 000

Deferred 175 000

Profit for the year 2 700 000


Total comprehensive income for the year 2 700 000

EXTRACT FROM THE STATEMENT OF CHANGES IN EQUITY FOR THEYEAR ENDED 31 DECEMBER 19.9

Retained

earnings

R

Balance at 31 December 19.8 500 000

Total comprehensive income for the year 2 700 000

Dividends (600 000)

Preference 100 000

Ordinary 500 000

Balance at 31 December 19.9 2 600 000

The issued share capital of Cat Limited since incorporation is 500 000 ordinary shares of R1

each and 1 000 000 10% cumulative preference shares of R1 each.

Basic earnings

R

Profit for the period 2 700 000

Preference dividends (100 000)

2 600 000

Basic earnings per share is therefore:

R2 600 000

500 000= 520 cents

240ACN202R/1

1.4 PRESENTATION

An enterprise should present:

. on the face of the statement of comprehensive income,

. for each class of ordinary shares,

. with equal prominence,

. for all periods presented,

basic earnings per share (including a loss per share).

1.5 DISCLOSURE

An enterprise should disclose the following for basic earnings per share:

1. Earnings:

. The earnings amount used in the calculation.

. Reconciliation of the earnings amounts used in the calculation to the profit or loss for the

period in the statement of comprehensive income.

2. Per share:

. The weighted average number of ordinary shares used.

. Reconciliation between the number of shares used for basic earnings per share.

If an enterprise discloses, in addition to basic earnings per share, per share amounts using a

reported component of profit other than profit or loss for the period attributable to ordinary

shareholders, such amount should be calculated using the weighted average number of

ordinary shares.

If a component of profit is used which is not reported as a line item in the statement of

comprehensive income, a reconciliation should be provided between the component used and

a line item which is reported in the statement of comprehensive income.

1.6 DIFFERENT CLASSES OF SHARESParticipating preference shares

Participating preference shares are shares whose holders are entitled, in addition to receiving

their fixed preference dividend, to share along with the ordinary shareholders in the remainder

of the distributable profit, either pro rata or after ordinary shareholders have received a certain

minimum dividend. It is important to take careful note of the conditions of issue and of the

capital structure, for example:

``One cent per share for every four cents per share paid to ordinary shareholders'' does

not necessarily mean that preference shareholders share one-fifth of the profits.

Example 1 500 000 Ordinary shares

200 000 Participating preference shares

In this case the participating rights would be as follows:

R % Participation

500 000 6 4 cents 20 000 90,9 (20 00022 000 )

200 000 6 1 cent 2 000 9,1 ( 2 00022 000)22 000 100,0

241ACN202R/1

Example 2

500 000 Ordinary shares

500 000 Participating preference shares

R % Participation

500 000 6 4 cents 20 000 80 (20 00025 000)

500 000 6 1 cent 5 000 20 ( 5 00025 000)

25 000 100

Suppose the conditions of issue lay down that participating preference shares will share in

dividends in the ratio of 18 of the total dividend earned by ordinary shareholders over and

above the fixed preference dividend and earnings of R100 000 are assumed, then the earnings

allocated to each of the two classes will be calculated as follows:

R

Ordinary shareholders 88 889 (Ê~Ë)Participating shareholders 11 111 (Ã~Ë)

100 000

If the participating shareholders receive an additional share of profits after the ordinary

shareholders have received a certain minimum dividend, the earnings are distributed between

the ordinary shareholders and the participating preference shareholders, calculated after the

minimum dividend of the ordinary shareholders has been deducted. This principle is illustrated

in the following example:

Example 3

More than one class of equity shares

Sanfred Ltd had the following capital structure at 31 December 19.1:

R

4 000 000 Ordinary shares of 25c each 1 000 000

500 000 10% R1 Cumulative participating preference shares 500 000

Each participating preference share is entitled to one-half of the ordinary dividend per share

after the payment of dividends of 10 cents per share to the ordinary shareholders. Profit after

tax for the year ended 31 December 19.1 amounted to R1 130 000. An ordinary dividend

of 15 cents per share was paid during 19.1.

242ACN202R/1

Calculations

Participating

Total Ordinary preference

shares shares

R R R

1. Participating rights

4 000 000 6 1 cent 40 000 40 000

500 000 6 � cent 2 500 2 500

42 500 40 000 2 500

Percentage40 00042 500

6 100% 100% 94,1% 5,9%

2 50042 500

6 100%

Ratio 17 16 1

(94,1 7 5,9); (5,9 7 5,9)

2. Earnings

Profit 1 130 000

Fixed preference dividend (50 000) 50 000

(500 000 6 10%)

1 080 000

Minimum ordinary dividend (400 000) 400 000

(4 000 000 6 10c)

Profit to divide between

ordinary and preference shares 680 000

Ordinary: 680 000 6 1617

640 000

Preference: 680 000 6 117

40 000

1 040 000 90 000

3. Dividends

Ordinary shares 600 000 600 000

(4 000 000 6 15 cents)

Participating preference shares

Ð Fixed dividend 50 000 50 000

Ð Participating dividend 12 500 12 500

Ã~Ä 6 [500 000 6 (15c 7 10c)]

662 500 600 000 62 500

4. Number of shares

Given 4 000 000 500 000

5. Figures to disclose

Earnings per share 26c 18cDividend per share 15c 12,5c

243ACN202R/1

Disclosure

1. On the statement of comprehensive income under total comprehensive income for the

year:

19.1

Basic earnings per ordinary share 26c

Basic earnings per cumulative participating preference share 18c

2. Part of the notes:

Earnings per share

The calculation of earnings per share is based on earnings attributable to the 10%

cumulative participating preference shares of R90 000 (19.0: Rxxx) and the earnings of

R1 040 000 (19.0: Rxxx) on the ordinary shares. 500 000 (19.0: xxx) 10% cumulative

participating preference shares and 4 000 000 (19.0: xxx) ordinary shares were issued

throughout the two years ended 31 December 19.1.

Reconciliation of amounts used to calculate basic earnings per share with amounts in

statement of comprehensive incomeR

Earnings Ð used in basic earnings per ordinary share 1 040 000

Earnings Ð used in basic earnings per cumulative participating

preference shares 90 000

Profit per statement of comprehensive income 1 130 000

Dividends per share

Dividend attributable to ordinary owners (15c per share)

Dividend attributable to participating preference owners (12,5c per share)

1.7 CHANGES IN CAPITAL STRUCTURE

1.7.1 Shares issued for consideration

Shares are included in the weighted average number of shares from the date consideration is

receivable. The date on which the shares were issued is not of any importance when

calculating basic earnings per share if that is a different date from when the consideration is

receivable. When calculating earnings per share, the new shares issued must be weighted

according to the date that the consideration was receivable but the number of shares in issue in

the previous year must not be weighted.

The reason why the shares of the previous year are not weighted is because the consideration

for the additional shares is received in the current year and therefore does not influence the

calculation of the number of shares of the previous year.

244ACN202R/1

The following are examples:

Consideration received for

share issue

Date of inclusion in calculation

of earnings per share

1. Cash When cash is receivable

2. Voluntary reinvestment of dividends on

ordinary or preference shares

Dividend payment date

3. Conversion of a debt instrument to

ordinary shares

Date interest ceases to accrue

4. Interest on other financial instrument Date interest ceases to accrue

5. Settlement of a liability Settlement date

6. Acquisition of an asset other than cash Date on which the acquisition is recognised

7. Rendering of services Date or period for which the services are

rendered.

8. Ordinary shares issued as part of the

purchase consideration of a business

combination that is an acquisition

From the date of acquisition because the

acquirer incorporates the results of the

operations of the acquiree into its statement

of comprehensive income as from the date of

acquisition.

Please note that none of the above examples will influence the calculation of the number

of shares of the previous year.

Ordinary shares which are issuable upon the satisfaction of certain conditions (contingently

issuable shares) are considered outstanding, and included in the computation of basic

earnings per share from the date when all necessary conditions have been satisfied.

The shares are therefore taken into account in the calculation of the weighted number of

shares from the date that the company has additional earnings capacity because of the new

shares issued, for example if the shares are issued for cash, then the earnings capacity of the

company will only increase from the date that the additional cash is available to that company.

245ACN202R/1

Example 1

Share issues at fair market value

Since incorporation A Ltd has had an authorised share capital of 2 000 000 ordinary shares of

R1,50 each and 250 000 8% non-cumulative preference shares of R1 each. The issued share

capital was as follows:

Ordinary shares

Issued on incorporation 1 000 000 at R1,80 each

30 June 19.5 500 000 at R2,00 each

31 December 19.6 250 000 at R3,00 each

Preference shares

Issued on incorporation 150 000 at R1,20 each

31 December 19.6 50 000 at R2,00 each

Profit/(loss) after tax amounted respectively to R500 000 and (R120 000) for the years ended

30 June 19.7 and 30 June 19.6. Since incorporation the company has paid a preference

dividend every year, except the year ended 30 June 19.6.

CalculationsTotal 1/7/19.6 to 1/7/19.5 to

30/6/19.7 30/6/19.6

Equity shares

Issued on incorporation 1 000 000 1 000 000 1 000 000

30 June 19.5 500 000 500 000 500 000

31 December 19.6 (250 000 6 612

) 250 000 125 000 Ð

1 750 000 1 625 000 1 500 000

Earnings/(loss) R R

Profit/(loss) after tax 500 000 (120 000)

Preference dividend [(150 000 6 8%) + (14 000) Ð

(50 000 6 8% 6 612

)]

486 000 (120 000)

Disclosure


year:

19.7 19.6

Earnings per ordinary share 29,91c Ð

(R486 000 7 1 625 000)

Loss per ordinary share Ð 8c

(R120 000 7 1 500 000)

2. Part of notes:

Earnings per share

The calculation of earnings/(loss)per share is based on earnings of R486 000 (19.6 Ð loss

R120 000) and a weighted number of issued ordinary shares of 1 625 000 (19.6 Ð

1 500 000).

246ACN202R/1

Reconciliation of amounts used to calculate basic earnings per share with amounts in the

statement of comprehensive income

19.7 19.6

R R

Earnings (loss) Ð basic earnings per share 486 000 (120 000)

Preference dividends 14 000 Ð

Profit (loss) per statement of comprehensive income 500 000 (120 000)

COMMENT

Since the preference shares are not cumulative preference shares, no provision is made

for arrear preference dividends in respect of 19.6.

Example 2

Shares issued for the acquisition of an asset

Duffield Ltd's issued share capital consisting of ordinary shares with a nominal value of

50 cents each amounted to R2 500 000 at 31 December 19.1 and to R2 000 000 at 31

December 19.0.

On 1 September 19.1 the company issued 1 000 000 ordinary shares at R1 per share (which

represented the market price of the shares at closing time on 31 August 19.1) as payment for an

empty industrial stand on which a factory was to be built. The risks and remuneration in relation to

the right of ownership of the stand were transferred to Duffield Ltd on 1 October 19.1.

The weighted average numbers of shares that will be brought into account are as follows:

Total 19.1 19.0

Equity shares

Number of shares issued on

1 January 19.0 4 000 000 4 000 000 4 000 000

(R2 000 000 7 50c)

Shares issued 1 September 19.1 but that

will only come into consideration

for dividends on 1 October 19.1 1 000 000 250 000 Ð

(1 000 000 6 312

)

5 000 000 4 250 000 4 000 000

Share issues in exchange for shares in another company are essentially the same as where

shares are issued for the acquisition of an asset. As in the case of the acquisition of an asset,

the equity shares for the purposes of calculating earnings per share are regarded as having

been issued on the date on which the income from the investment in the shares was included in

earnings. Where the income of the company whose shares have been acquired is included

with that of the company which issued the shares from a date other than the date on which the

shares were issued as remuneration, the shares are considered to have been issued on the

same date as the date on which the income was included. This will ensure that when earnings

per share are calculated the period for which income was included corresponds to the period

for which the shares are weighted.

247ACN202R/1

Where preference shares or debentures are issued in part or full payment for shares acquired

in another company and the date on which the preference dividends or debenture interest

begins to accumulate differs from the date from which income from the investment in shares is

included in earnings, the problem which arises is that the cost of acquiring the asset is not

matched with the income generated by the investment (matching concept).

Example 3

Business combination which is an acquisition

Kopke Limited had the following number of issued shares at 31 December 19.0 and 19.1:

19.1 19.0

Ordinary shares of 25c each 6 000 000 4 000 000

10% Cumulative preference shares of R1 each 1 000 000 500 000

On 1 April 19.1 Kopke Limited obtained full control (100%) over Oorke Limited. On 1 July 19.1

Kopke Limited issued 500 000 preference shares and 2 000 000 ordinary shares as

consideration for the acquisition of the shares in Oorke Limited. The new preference shares

ranked for dividends from 1 July 19.1.

The profit for the year and ordinary dividends paid of Kopke Limited and Oorke Limited for the

years ended 31 December 19.0 and 19.1 are as follows:

19.1 19.0

Kopke Limited R R



Oorke Limited



REQUIRED

Disclose the basic earnings per share in the consolidated annual financial statements of

Kopke Limited and its subsidiary for the year ended 31 December 19.1 to comply with

Generally Accepted Accounting Practice. Comparative figures are required.

248ACN202R/1

Solut ion

Calculations

1. Basic earnings

19.1 19.0

R R

Profit for the year

Ð Kopke Limited 475 000 450 000

Ð Oorke Limited 75 0001 Ð

550 000 450 000

Preference dividends (75 000)2 (50 000)

475 000 400 000

2. Weighted average number of shares

Total Weighted average

number of number of shares

shares 19.1 9.0

Original number of shares at

1 January 19.0 4 000 000 4 000 000 4 000 000

Issued 1 July 19.1 but assumed to

rank from 1 April 19.1 2 000 000 1 500 0003 Ð

6 000 000 5 500 000 4 000 000

3. Basic earnings per share

19.1 19.0

Basic earnings per equity share (in cents) 8,64 10,00

(475 000/5 500 000); (400 000/4 000 000)

Explanatory notes

1 Control was effectively obtained from 1 April 19.1 and from that date the profit of Oorke Limited must be

included with the profit of Kopke Limited ; R100 000 6 912 = R75 000.

2 New preference shares ranked for dividends from 1 July 19.1 ; R(500 000 6 10%) + R(500 000 610% 6 6

12 ) = R75 000. To accomplish the matching of cost with profit, the preference dividend should

be provided for 9 months instead of 6 months when calculating earnings per share, or alternatively the

fact that profit is included for 9 months and dividends are provided for only 6 months must be disclosed.

3 2 000 000 6 912 = 1 500 000 shares

Disclosure

1. On the face of the statement of comprehensive income beneath total comprehensive

income for the year

19.1 19.0

Basic earnings per share (in cents) 8,64 10,00

249ACN202R/1

2. As part of the notes


The calculation of basic earnings per share is based on earnings of R475 000

(19.0: R400 000) and 5 500 000 (19.0: 4 000 000) ordinary shares as if the additional

2 000 000 ordinary shares issued on 1 July 19.1 had been issued on 1 April 19.1, the date

from which the profit from the subsidiary was included in profit.

Reconciliation of amounts used to calculate basic earnings per sharewith amounts in statement of comprehensive income

19.1 19.0

R R

Earnings Ð basic earnings per share 475 000 400 000

Preference dividends 75 000 50 000

Profit per the statement of comprehensive income 550 000 450 000

Example 4

Rights issue at fair value (refer commentary)

The following abridged statement of comprehensive income of A Ltd is submitted to you:

STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED30 JUNE 19.2

19.2 19.1

R R

Income 121 200 110 000

Disclosable expenses (38 200) (32 000)



Loss on sale of plant 3 200 Ð






The issued share capital of A Ltd consisted of 100 000 ordinary R1 shares at 30 June 19.0. At

31 December 19.1 A Ltd had a rights issue of 80 000 shares at a fair value of R1,80 per share.

250ACN202R/1

EXTRACT FROM THE STATEMENT OF CHANGES IN EQUITY FOR THEYEAR ENDED 30 JUNE 19.2

Reserve for

asset re- Retained

placement earnings Total

R R R

Balance at 30 June 19.0 Ð 15 000 15 000


Dividends paid

Ordinary shares (15 000) (15 000)

Preference shares (8 000) (8 000)


Balance on 30 June 19.1 5 000 21 000 26 000


Dividends paid




Balance at 30 June 19.2 10 000 31 000 41 000

Calculations

19.2 19.1

R REarnings


Preference dividends (8 000) (8 000)

25 000 26 000

Equity Total 19.2 19.1

Balance 100 000 100 000 100 000

Issued 31/12/19.1 (80 000 x 6/12) 80 000 40 000 Ð

180 000 140 000 100 000

Dividends R R

Given 10 000 15 000

Earnings and dividend per ordinary share 19.2 19.1

Basic earnings per share R25 000 R26 000

140 000 100 000

= 17,85 cents = 26 cents

Dividend per share R10 000 R15 000

180 000 100 000


251ACN202R/1

Disclosure

A LTD

STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED

30 JUNE 19.2

19.2 19.1

R R


Basic earnings per equity share 17,85c 26c


Earnings per share

The calculation of earnings per share is based on earnings of R25 000 (19.1: R26 000) and on

an average number of 140 000 weighted ordinary shares in issue during the year

(19.1: 100 000).



19.2 19.1

R R


Cumulative preference dividends 8 000 8 000

Profit per statement of comprehensive income 33 000 34 000

Dividends per share

Dividends attributable to ordinary owners 5,55c 15c

COMMENT

. A rights issue is an issue to existing shareholders of the company for consideration.

. Since 180 000 shares were in issue at 30 June 19.2 when the dividend of R10 000 was

declared, the dividend per share is calculated accordingly and the weighted average of

140 000 shares plays no part.

1.7.2 Shares issued for no consideration

Where reserves, such as non-distributable reserves, are capitalised by issuing equity shares,

the earnings and dividend per share must be based on the increased weighted average

number of issued shares after the capitalisation issue. When there is a capitalisation issue, no

additional capital is acquired and the company merely makes a book entry. The reserves that

were capitalised and for this reason the number of shares issued as a capitalisation issue are

not weighted for the period of issue. The comparative figures (earnings and dividends per

share) should also be adjusted by the increase in the number of shares, if they are to be

comparable.

Where shares are split, say from R1 shares to 50c shares, or where shares are consolidated

and no repayment of capital takes place, the same principle applies as in the case of

capitalisation issues.

252ACN202R/1

Ordinary shares may be issued or the number of shares outstanding may be reduced without a

corresponding change in resources. This means that even though the number of shares

changed during the year, no consideration was received, therefore the earnings capacity of the

company did not change. Examples include the following:

. a capitalisation or bonus issue

. a bonus element in a rights issue

. a share split

. a reverse share split (consolidation of shares)

Note that in the above cases the number of shares are not weighted when calculating basic

earnings per share. The number of ordinary shares outstanding before the event is adjusted for

the proportionate change in the number of ordinary shares outstanding as if the event had

occurred at the beginning of the earliest reported period i.e. the beginning of the prior year. The

number of shares are only weighted if the capitalisation issue (or other examples mentioned

above) follows a rights issue in the same year. The capitalisation issue is then only weighted

with regard to this rights issue.

Work through the following examples carefully:

Example 1

Bonus issue/Capitalisation issue

Zinzan Limited had the following number of issued shares on 31 December 19.5 and 19.6:

19.6 19.5


On 1 April 19.6 the company made a bonus issue of 2 shares for each ordinary share

outstanding on 31 March 19.6.

The profit for the year amounted to R200 000 for 19.5 and R400 000 for 19.6.

REQUIRED

Calculate earnings per share for the years ended 31 December 19.5 and 31 December

19.6 for Zinzan Limited in accordance with the requirements of Generally Accepted

Accounting Practice.

Solut ion 1

Bonus issue 1 April 19.6 Ð 200 000 6 2 = 400 000 shares

19.6 19.5


(400 000/600 000; 200 000/600 000)

Note that since the bonus issue is an issue without consideration, the issue is treated as if it

had occurred at the beginning of 19.5, the earliest period reported.

253ACN202R/1

Example 2

Share and capitalisation issue

Bambino Limited had the following number of issued shares on 31 December 19.0 and 19.1:

19.1 19.0



During 19.1 the following changes in the capital structure of Bambino Limited took place:

(1) On 1 July 19.1 the company issued 1 000 000 ordinary shares at R1 per share for full

value.

(2) On 1 October 19.1 the company issued 5 000 000 ordinary shares by way of a

capitalisation of reserves in the ratio of 1 share for every 1 share held.

The profit for the period amounted to R600 000 for 19.1 (19:0: R450 000).

REQUIRED

Disclose the basic earnings per share in the annual financial statements of Bambino

Limited for the year ended 31 December 19.1 to comply with Generally Accepted

Accounting Practice. Comparative figures are required.

Solut ion 2

Calculations

1. Basic earnings

19.1 19.0

R R


Cumulative preference dividends (500 000 6 10%) (50 000) (50 000)

550 000 400 000

2. Weighted average number of shares

Total 19.1 19.0

Original number of shares at 1 January 19.0 4 000 000 4 000 000 4 000 000

Issued 1 July 19.1 (1 000 000 6 612 ) 1 000 000 500 0001 Ð

5 000 000 4 500 000 4 000 000

Capitalisation issue 1 October 19.1 5 000 000 4 500 0002 4 000 0002

10 000 000 9 000 000 8 000 000

3. Basic earnings per share

19.1 19.0


(550 000/9 000 000);(400 000/8 000 000)

254ACN202R/1

Disclosure

BAMBINO LIMITED

1. On the face of the statement of comprehensive income beneath profit for the year

19.1 19.0

Basic earnings per ordinary share (in cents) 6,1 5,0

2. As part of the notes


The calculation of basic earnings per ordinary share is based on earnings of R550 000

(19:0: R400 000) and a weighted average of 9 000 000 (19.0:8 000 000) ordinary shares in

issue after the capitalisation issue on 1 October 19.1. The earnings per share for 19.0 has been

adjusted accordingly.



19.1 19.0

R R




COMMENT

1 New share issue during the year Ð since the shares did not contribute towards the

earnings capacity of the company for the full year, the number of shares has to be

weighted for the period it contributed towards earnings. It has no effect on the

calculation of the number of shares for 19.0 because the shares were not issued

during 19.0.2 The capitalisation issue was done after the new issue of shares in a 1 to 1 ratio and it

is therefore necessary to consider the effect of the new issue on the capitalisation

issue. Because the new shares were not issued for the full year, they have to be

weighted. Therefore the capitalisation shares effected by the new issue will also have

to be weighted for 19.1.

19.0 must be adjusted by the effect of the capitalisation issue in 1 to 1 ratio. This result

in a different number of shares for the capitalisation issue over the two years, which

would not have been the case had the capitalisation issue taken place before the new

issue of shares.

Rights issue at less than fair value

If a company raises capital by means of a rights issue and the issue price is less than the fair

value of the company's shares when issued, a bonus element arises.

The number of ordinary shares to be used in calculating basic earnings per share for all periods

prior to the rights issue is the number of ordinary shares outstanding prior to the issue,

multiplied by the following factor:

255ACN202R/1

Fair value per share immediately prior to the exercise of rights

Theoretical ex-rights fair value per share

The theoretical ex-rights fair value per share is calculated as follows:

Aggregate fair value of shares immediately prior to the

exercise of the rights + Proceeds from the exercise of the rights

Number of shares outstanding after the exercise of the rights

OR

Fair value of outstanding shares + Amount received from rights issue

Number of shares outstanding prior to rights issue + Number of

shares issued with rights issue

COMMENT

. Where the rights themselves are to be publicly traded separately from the shares prior

to the exercise date, fair value is established at the close of the last day on which the

shares with the rights are traded.

. In above formula outstanding shares represent issued shares.

Example 3

Rights issue at less than fair value

The following is an extract from the statement of comprehensive income of Wesson Limited for

the year ended 31 December 19.5:

19.5 19.4

R R

Revenue 2 500 000 2 300 000

Cost of sales (1 500 000) (1 000 000)

Gross profit 1 000 000 1 300 000

Expenses (400 000) (550 000)






256ACN202R/1


Retained

earnings

R





Dividends (60 000)

Non-cumulative preference (10 000)

Ordinary (30 000)

Cumulative preference (20 000)


The capital structure on 31 December was as follows:

19.5 19.4


10% Cumulative preference shares at R1 each 100 000 100 000

20% Non-cumulative preference shares of R1 each 50 000 50 000


1. On 30 April 19.5 Wesson Limited had a rights issue of 1 ordinary share for every 5 ordinary

shares held at R2,00 per share for cash. The market price prior to the announcement of the

rights issue was R3,50 per share. Management considered, that for the issue to be

successful, they could have issued the shares at R3,00, which was their fair value.

2. On 30 June 19.5 Wesson Limited had a capitalisation issue of 1 ordinary share for every 3

ordinary shares held.

REQUIRED

Calculate and disclose basic earnings per share in the financial statements of Wesson

Limited for the year ended 31 December 19.5 in accordance with Generally Accepted

Accounting Practice. Notes and comparative figures are required.

Calculations

Weighted average number of ordinary shares:

Theoretical ex-rights value per share:

Fair value of outstanding shares + amount received from rights issue

Number of shares outstanding prior to rights issue + number of shares

issued with rights issue

= (500 000 6 R3) + (100 000 6 R2)

500 000 + 100 000

= 2,8333333

257ACN202R/1

Adjustment factor:

Fair value per share prior to rights issue

Theoretical ex-rights value per share

= 3 / 2,8333333

= 1,0588235

Weighted average number of shares:

19.5 19.5 19.4 19.4

Number of Number of

Calculation shares Calculation shares

Rights issue 500 000 6 1,0588235

6 4/12 176 471 500 0006 1,0588235 529 412

600 000 6 8/12 400 000

Subtotal 576 471 529 412

Capitalisation

issue 576 471/3 192 157 529 412/3 176 471

Total 768 628 705 883

Basic earnings per share:

19.5 19.4

R400 000/768 628 52,04c

R440 000/705 883 62,33c

Disclosure

WESSON LIMITED


19.5 19.4

R R


Basic earnings per ordinary share 52,04c 62,33c

WESSON LIMITED



The calculation of basic earnings per ordinary share is based on earnings of R400 000

(19.4: R440 000) and a weighted average of 768 628 (19.4: 705 883) ordinary shares in issue

during the year.

258ACN202R/1



19.5 19.4

R R


Cumulative preference dividend 10 000 10 000

Non-cumulative preference dividend 10 000 Ð


Reduction in equity share capital

Two possibilities exist, namely:

. reverse share split Ð the number of shares are reduced, in which case the basic earnings

per share are based on the reduced number of equity shares after the consolidation of

shares. The basic earnings per share for the preceding year are adjusted proportionately.

. the number of shares remain unchanged and only the nominal value per share is affected.

In this case no adjustment is necessary for basic earnings per share.

The share split or reverse share split is the change in the nominal value of the shares leading to

a change in the number of shares, for example:

A Limited had 1 000 R1 issued ordinary shares. It was then decided to split the shares into 50c

shares. The result being that A Limited now has 2 000 50c issued ordinary shares. The share

capital remained at R1 000, but the number of shares changed.

Example 4

Share split

Y Ltd was incorporated in 19.0 with an authorised share capital of 2 000 000 ordinary shares of

R1 each and 500 000 10% cumulative preference shares of R2 each. The authorised share

capital was fully issued at the time of incorporation.

On 1 June 19.8 the ordinary shares were split into shares of 50c each and on

1 September 19.8 a further 900 000 ordinary shares were issued for cash at a premium of 10c

per share after all the legal requirements had been observed.

The following information was taken from the statement of comprehensive income of Y Ltd

for the year ended 31 December 19.8:

19.8 19.7

R R

Profit before tax 1 437 000 1 339 000





259ACN202R/1


Retained Total

earnings

R R



2 049 000 2 049 000

Dividends paid





2 646 000 2 646 000

Dividends paid




Calculations

Earnings R R



837 000 749 000

Equity Total 19.8 19.7

At incorporation 2 000 000 2 000 000 2 000 000

Split (2 000 000 6 R1,00/50c) 4 000 000 4 000 000 4 000 000

Issued 1 September 19.8 900 000 300 000 Ð

(900 000 6 4/12)

4 900 000 4 300 000 4 000 000

Dividends 19.8 19.7

R R

Given 400 000 240 000

Earnings and dividend per share

Earnings per shareR837 000

4 300 000R749 0004 000 000

= 19,46 cents = 18,72 cents

Dividend per share (paid)R400 000

4 900 000R240 0002 000 000


Dividend per share (adjusted)R400 000

4 900 000R240 0004 000 000


260ACN202R/1

Disclosure

Y LTD


19.8 19.7

R R


Basic earnings per equity share 19,46c 18,72c

NOTE FOR THE YEAR ENDED 31 DECEMBER 19.8

Earnings per share

The calculation of earnings per share is based on earnings of R837 000 (19.7 Ð R749 000)

and 4 300 000 weighted average issued ordinary shares during the year after a share split on 1

June 19.8 (19.7 Ð 4 000 000). The earnings and dividend per share for 19.7 were adjusted

accordingly.

The dividend per share was adjusted as follows for the share split:

19.8 19.7

Paid Adjusted Paid Adjusted

Final 8,16c 8,16c 12c 6c



19.8 19.7

R R




Dividends per share

Dividend attributable to ordinary owners per share

adjusted for the share split 8,16c 6c

261ACN202R/1

Example 5

Share consolidation

The following information was obtained from the books of Z Ltd for the year ended

30 June 19.6:

STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED 30JUNE 19.6

19.6 19.5

R R






EXTRACT FROM THE STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 30

JUNE 19.6

Reserve for

asset Retained


R R R

Balance at 30 June 19.4 Ð 50 000 50 000

Total comprehensive income for the year Ð 62 500 62 500

Ð 112 500 112 500

Preference dividends Ð (3 600) (3 600)

Ordinary dividends Ð (12 000) (12 000)


Balance at 30 June 19.5 20 000 76 900 96 900


20 000 216 900 236 900




Balance at 30 June 19.6 45 000 169 100 214 100

The particulars of the issued share capital are as follows:

R

19.4

July 1 Ordinary shares of 50c each 160 000

12% Cumulative preference shares of R1 each 30 000

19.6

June 1 A special resolution was adopted to consolidate the

ordinary shares into shares with a nominal value of R2 each.

262ACN202R/1

Calculations

1. Earnings19.6 19.5

R R



Earnings 136 400 58 900

2. Number of shares

Total 19.6 19.5

Balance at 1 July 19.4 320 000 320 000 320 000

(R160 000 7 50c)

4 shares consolidated to 1 share

on 1 June 19.6 (320 000 7 4) 80 000 80 000 80 000

3. Dividends

19.6 19.5

Given R19 200 R12 000

Issued shares on date of

declaration of dividend 80 000 320 000

Adjusted number of shares at date

of declaration of dividend 80 000 80 000

4. Earnings and dividend per share

19.6 19.5

Basic earnings per share (R136 400 7 80 000) 170,5c

( R58 900 7 80 000) 73,63c

Dividend per share

Ð Paid (R19 200 7 80 000) 24c

(R12 000 7 320 000) 3,75c

Ð Adjusted (R19 200 7 80 000) 24c

(R12 000 7 80 000) 15c

Disclosure


year:

19.6 19.5

Basic earnings per share 170,5c 73,63c

2. Part of the notes:

Earnings per share

The calculation of earnings per share is based on earnings of R136 400 (19.5: R58 900)

and a weighted average of 80 000 ordinary shares after adjustment for the consolidation of

shares on 1 June 19.6 (19.5: 80 000).

The dividend per share as adjusted for the consolidation of shares is as follows:

19.6 19.5

Paid 24c 3,75c

Adjusted 24c 15c

263ACN202R/1



19.5 19.6

R R




1.8 Headline earnings

Definition

Headline earnings

Headline earnings is defined as all trading profits or losses of the company, including those

items that are of such a nature and size that their disclosure is relevant to explain the

performance of the enterprise, after tax, non-controlling interest and preference dividends but

excluding separately identifiable remeasurements.

A measurement is an amount recognised in the statement of comprehensive income relating to

any change (realised or unrealised) in the carrying amount of an asset or liability that arose

after the initial recognition of such asset or liability.

Disclosure

Companies should disclose the following in the annual financial statements:

. earnings per share calculated in accordance with IAS 33/AC 104;

. headline earnings per share

. an itemised reconciliation between headline earnings and earnings in accordance with

IAS 33/AC 104. The reconciliation should detail the nature and amount of each reconciling

item.

Example

The following is the detailed statement of comprehensive income of Boxer Limited for the year

ended 28 February 19.1:

R

Revenue 1 000 000



Expenses (133 000)

Profit on the sale of machinery (tax Ð R35 000) 80 000






264ACN202R/1

EXTRACT FROM THE STATEMENT OF CHANGES IN EQUITY FOR THEYEAR ENDED 28 FEBRUARY 19.1:

Retained

earnings

R

Balance 28 February 19.0 300 000


Dividends paid Ð ordinary (32 000)

Balance 28 February 19.1 500 000


1. The issued share capital of Boxer Limited consists of 100 000 ordinary shares of R1 each.

REQUIRED

Calculate and disclose earnings per share and headline earnings per share in the annual

financial statements of Boxer Limited for the year ended 28 February 19.1 in accordance

with Generally Accepted Accounting Practice.

Disclosure

BOXER LIMITED

EXTRACT FROM THE STATEMENT OF COMPREHENSIVE INCOME FORTHE YEAR ENDED 28 FEBRUARY 19.1

R


Earnings per share (232 000 7 100 000) 232c

Headline earnings per share (187 000 7 100 000) 187c

BOXER LIMITED

EXTRACT FROM THE NOTES FOR THE YEAR ENDED 28 FEBRUARY 19.1

1. Earnings per share

The calculation of earnings per share is based on earnings of R232 000 (19.0: Rx) and a

weighted average number of 100 000 (19.0: 100 000) ordinary shares in issue during the year.

The calculation of headline earnings per share is based on earnings of R187 000 (19.0: Rxxx)

and a weighted average number of 100 000 (19.0: 100 000) ordinary shares in issue during

the year.

265ACN202R/1

RECONCILIATION BETWEEN EARNINGS AND HEADLINE EARNINGS

Profit

before Profit after

tax Tax tax

R R R

Earnings per statement of

comprehensive income 347 000 (115 000) 232 000

Adjustments:

Profit on sale of

machinery (80 000) 35 000 (45 000)

Headline earnings 267 000 (80 000) 187 000

1.9 DIVIDENDS PER SHARE

AC 104 does not require the disclosure of dividends per share. However par 95 of IAS 33/

AC 101 Presentation of Financial Statements requires the disclosure of dividends per share.

However, there are no specific guidelines in any of the current accounting statements on the

calculation of dividends per share.

Calculation

For the purpose of this course, the following guidelines should be followed on the calculation of

dividends per share:

Dividends declared for the period divided by the number of issued shares on the date when the

dividends were declared.

The calculation of dividends per share is therefore based on the number of issued shares and

not on the weighted average number of issued shares. Comparative figures for dividends per

share are only adjusted in the following instances:

. Capitalisation issues, bonus issues, a share split or a share consolidation

. Reduction in equity share capital

In the case where dividends are declared more than once during the period under review, a

separate dividends per share must be calculated for each dividend payment. The sum of the

separate dividends per share calculated can be disclosed in the statement of comprehensive

income or the dividends per share for each declaration can be disclosed.

An adjusted dividend per share must be calculated if the company issued capitalisation shares,

bonus issues or a share split or share consolidation occurred in the current year. The result of

these share transactions is that the number of shares increase or decrease but the R-value of

issued share capital remains unchanged. The number of issued shares of the previous year is

therefore adjusted and this requires an adjusted dividend per share calculation.

Disclosure requirement

The revised IAS1 requires disclosure of dividends per share in cents for each class of equity

shares for the period under review and the corresponding prior period in the statement of

changes in equity or alternatively in the notes.

Work through the following example:

266ACN202R/1

Example

Novick Limited had the following number of issued shares on 31 December 19.0 and 19.1:

19.1 19.0



During 19.1 the following changes in the capital structure of Novick Limited took place:

1. On 1 July 19.1 the company issued 1 000 000 ordinary shares at R1 per share for full value.

2. On 1 October 19.1 the company issued 5 000 000 ordinary shares by way of a

capitalisation of reserves in the ratio of 1 share for every 1 share held.

The profit after tax amounted to R600 000 for 19.1 (19.0: R450 000).

On 30 June 19.1 the company paid an interim dividend of R80 000 (30 June 19.0: R70 000)

and on 31 December 19.1 a final dividend of R120 000 (31 December 19.0: R80 000).

REQUIRED

Disclose the earnings per share and dividends per share in the annual financial

statements of Novick Limited for the year ended 31 December 19.1 to comply with the

Generally Accepted Accounting Practice. Comparative figures are required.

Calculations

1. Earnings

19.1 19.0

R R

Profit after tax (given) 600 000 450 000

Fixed preference dividends (50 000) (50 000)

550 000 400 000

2. Number of sharesTotal 19.1 19.0

Original issue Ð 1 January 19.0 4 000 000 4 000 000 4 000 000

Issued 1 July 19.1 1 000 000 500 0001 Ð

(1 000 000 6 6/12)

5 000 000 5 000 000 4 500 000 4 000 000

Capitalisation issue Ð

1 October 19.1 5 000 000 4 500 0002 4 000 0002

10 000 000 9 000 000 8 000 000

267ACN202R/1

3. Earnings per share and dividends per share19.1 19.0

Earnings per share (in cents) 6,1 5,0

(550 000/9 000 000);(400 000/8 000 000)

Dividends per share (in cents)

Interim: Amount paid 2,0 1,75

(80 000/4 000 000);(70 000/4 000 000)

Adjusted figure 1,0 0,875

(80 000/8 000 000);(70 000/8 000 000)

Final: Amount paid 1,2 2,0

(120 000/10 000 000);(80 000/4 000 000)

Adjusted figure 1,2 1,0

(120 000/10 000 000);(80 000/8000 000)

Explanatory notes

1. New share issue Ð the shares did not contribute towards the earnings capacity of thecompany for the full year, therefore the number of shares has to be weighted for the periodit contributed towards earnings. Since the shares were not issued during 19.0 it has noeffect on the calculation of the number of shares.

2. The capitalisation issue was done after the new issue of shares in a 1 to 1 ratio and it istherefore necessary to consider the effect of the new issue on the capitalisation issue.Because the new shares were not issued for the full year, they have to be weighted.Therefore the capitalisation shares effected by the new issue will also have to be weightedfor 19.1.

19.0 must be adjusted for the effect of the capitalisation issue in a 1 to 1 ratio. This resultsin a different number of shares for the capitalisation issue over the two years, which wouldnot have been the case had the capitalisation issue taken place before the new issue ofshares.

Disclosure1. On the face of the statement of comprehensive income beneath total comprehensive

income for the year

19.1 19.0

Earnings per share (in cents) 6,1 5,0

2. Notes

Earnings per share

The calculation of earnings per share is based on earnings of R550 000 (19.0: R400 000) and

9 000 000 (19.0: 8 000 000) ordinary shares in issue after the capitalisation issue on

1 October 19.1. The earnings per share for 19.0 have been adjusted accordingly.

19.1 19.0

Dividends per share (in cents) (2,0 + 1,2);(1,75 + 2,0) 3,2 3,8

The dividends per share as adjusted by the capitalisation issue, are as follows:

19.1 19.0

Paid Adjusted Paid Adjusted

Interim (in cents) (80 000/4 000 000) (80 000/8 000 000) (70 000/4 000 000) (70 000/8 000 000)

2,0 1,0 1,75 0,875

Final (in cents) (120 000/10 000 000) (120 000/10 000 000) (80 000/4 000 000) (80 000/8 000 000)

1,20 1,20 2,0 1,0

3,2 2,2 3,75 1,875

268ACN202R/1



19.1 19.0

R R




1.10 EXERCISES

The following examples include multiple changes in the capital structure of companies and it is

very important that you should spend some time working through questions of this nature since

they represent the standard of questions you will encounter in the assignments and the

examination.

Question 1

ISSUE FOR CASH DURING THE CURRENT YEAR TOGETHER WITH ACAPITALISATION ISSUE, ARREAR DIVIDENDS AND LOSSES

MASTER LTD


19.2 19.1

R R

Profit/(loss) before tax 530 000 (130 000)

Income tax expense (250 000) Ð

Profit/(loss) for the year 280 000 (130 000)


Total comprehensive income for the year 280 000 (130 000)

Statement of changes in equity for the year ended31 December 19.2

Ordinary

Share Retained

capital earnings Total

R R R


Total comprehensive loss for the year Ð (130 000) (130 000)



Ordinary shares issued 100 000 Ð 100 000

Ordinary dividends (60 000) (60 000)


Capitalisation issue 100 000 (100 000) Ð


269ACN202R/1

CAPITAL STRUCTURE

ISSUED SHARE CAPITAL AT 31 DECEMBER 19.2:

100 000 10% Cumulative preference shares of R1 each

400 000 Ordinary shares of R1 each

100 000 Ordinary shares were issued for cash on 30 June 19.2, and on 30 September 19.2,

100 000 Ordinary shares were issued as a capitalisation issue.

Dividends are declared on 31 December of every year.

REQUIRED

Show how the information on basic earnings and dividends per share should be disclosed

in the annual financial statements of Master Ltd for the year ended 31 December 19.2 in

order to comply with Generally Accepted Accounting Practice. Comparative figures are

required.

Question 2

ISSUE FOR CASH DURING THE PREVIOUS YEAR TOGETHER WITH ACAPITALISATION ISSUE DURING THE CURRENT YEAR

MADAM LTD

STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED 31DECEMBER 19.2

19.2 19.1

R R






STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED31 DECEMBER 19.2

Ordinary

Share Retained

capital earnings Total

R R R



200 000 274 000 474 000



Capitalisation issue 100 000 (100 000) Ð



Ordinary shares issued 100 000 Ð 100 000

Ordinary dividends (60 000) (60 000)



270ACN202R/1

CAPITAL STRUCTURE

Issued share capital at 31 December 19.2:

100 000 10% Cumulative preference shares of R1 each

400 000 Ordinary shares of R1 each

On 30 June 19.1 100 000 ordinary shares were issued for cash.

On 30 September 19.2 100 000 ordinary shares were issued by means of a capitalisation issue.

Dividends are declared on 31 December every year.

REQUIRED

Show how the information regarding basic earnings and dividends per share should be

disclosed in the annual financial statements of Madam Ltd for the year ended 31 December

19.2 in order to comply with Generally Accepted Accounting Practice. Comparative figures are

required.

Solut ions

Quest ion 1

Calculations

1. Basic earnings/(loss)

19.2 19.1

R R

Profit/(loss) before tax 530 000 (130 000)

Income tax expense (250 000) Ð

Profit/(loss) after tax 280 000 (130 000)


Earnings/(loss) 270 000 (140 000)

2. Number of shares

Total 19.2 19.1

Balance 1 January 200 000 200 000 200 000

Issued 30 June 19.2 (100 000 6 612

) 100 000 50 000 Ð

300 000 250 000 200 000

Capitalisation issue on 30 September 19.2 100 000 83 333 66 667

(250 000 7 3) (200 000 7 3)

Weighted number of shares 400 000 333 333 266 667

3. Dividends

19.2 19.1

Given R60 000 NIL

Shares in issue on date of declaration of dividend 400 000 Ð

271ACN202R/1

4. Earnings and dividends per share

Basic earnings /(loss) per share 81,0c (52,5c)

(R270 000 7 333 333) (R140 000 7 266 667)

Dividends per share 15,0c NIL

(R60 000 7 400 000)

Disclosure


year:

19.2 19.1

Basic earnings/(loss) per share 81,0c (52,5c)

2. Part of notes:

Earnings per share

The calculation of earnings per share is based on earnings of R270 000 (19.1: loss

R140 000) and a weighted average of 333 333 ordinary issued shares (19.1: 266 667)

after a capitalisation issue on 30 September 19.2. The loss per share for 19.1 was adjusted

accordingly.



19.2 19.1

R R

Earnings (loss) Ð basic earnings per share 270 000 (140 000)


Profit (loss) per statement of comprehensive income 280 000 (130 000)

Dividends per share

Dividend attributable to ordinary owners per share 15c NIL

COMMENT

Although the preference dividend was in arrears, the annual provision was deducted from

the calculation of earnings as if it had been paid.

Solut ions

Question 2

Calculations

1. Basic earnings

19.2 19.1

R R



Profit after tax 280 000 150 000


272ACN202R/1

Earnings 270 000 140 000

2. Number of sharesTotal 19.2 19.1

Balance 1 January 19.1 200 000 200 000 200 000

Issued 30 June 19.1 (100 000 6 612

) 100 000 100 000 50 000

300 000 300 000 250 000

Capitalisation issue 30 September 19.2 100 000 100 000 83 333

(300 000 7 3) (250 000 7 3)

Weighted number of shares 400 000 400 000 333 333

3. Dividends19.2 19.1

Given R60 000 R30 000

Shares in issue on date of declaration of dividend 400 000 300 000

4. Earnings and dividends per share


(R270 000 7 400 000) (R140 000 7 333 333)

Dividends per share

Ð paid (R60 000 7 400 000) (R30 000 7 300 000) 15,0c 10,0c

Ð adjusted (R60 000 7 400 000) 15,0c

(R30 000 7 400 000) 7,5c

Disclosure


year:

19.2 19.1


2. As part of the notes:

Earnings per share

The calculation of earnings per share was based on earnings of R270 000

(19.1: R140 000) and a weighted average of 400 000 ordinary issued shares

(19.1: 333 333) after a capitalisation issue on 30 September 19.2. The earnings per

share for 19.1 were adjusted accordingly.

The dividends per share as adjusted for the capitalisation issue are as follows:

Paid Adjusted

19.2 Final 15,0c 15,0c

19.1 Final 10,0c 7,5c


statement of comprehensive income 19.2 19.1

R R


Cumulative preference shares 10 000 10 000


273ACN202R/1

SELF -ASSESSMENT


. calculate basic earnings, headline earnings and dividends per share?

. disclose basic earnings, headline earnings and dividends per share according to

IAS 33/AC 104?

274ACN202R/1

TOPIC D

TIME VALUE OF MONEYTIME VALUE OF MONEY

Learning outcome

Learners can apply the basic concepts and formulas of the mathematics of financein practice to various financial calculations.

275ACN202R/1

Contents

1 Time value of money 277

276ACN202R/1

STUDY UNIT

1TIME VALUE OF MONEY

Learning outcome

Learners can calculate time value of money problems.

OVERVIEWThis study unit is divided into the following:

Page

Key concepts 278


1.1 Overview 278

1.1.1 Time value of money 279

1.1.2 Future and present values 279

1.1.3 Simple and compound interest 279

1.1.4 The concept ``annuity'' 279

1.1.5 Types of interest tables published 279

1.2 Simple interest 279

1.3 Compound interest 279

1.3.1 The future value of R1 279

1.3.2 The future value of R1 per annum 279

1.3.3 The present value of R1 280

1.3.4 The present value of R1 per annum 280

1.4 Perpetuities 280

1.5 Nominal and effective rates of interest 280

1.6 Summary 280

1.7 Symbols 280

1.8 Formulas 280

1.9 Test yourself questions 280

1.10 Questions with answers 280

Self-assessment 280

277ACN202R/1

KEY CONCEPTS

. Time value of money

. Future value

. Present value

. Simple interest

. Compound interest

. Interest rate

. Number of periods

. Annuity

. Perpetuity

. The process of accumulation

. The process of discounting

ASSESSMENT CRITERIA

Once you have studied this topic, you should be able to:

. explain basic time value of money concepts and terminology

. calculate simple and compound interest

. explain the relationship between present value, future value, interest rate and

number of periods

. calculate any of the above variables, given three of the other variables

Study chapter 3 of Fundamental aspects in conjuction with the following:

1.1 OVERVIEW

Read through the introductionary section.

When money is borrowed, a price must be paid for the use of that money. The use of the

money must have a greater value than the cost of borrowing. The lender on the other hand is

prepared to lend the money because the return on this investment is equal to or sometimes

more than what they can earn in the same risk class. The simple market rules of supply and

demand establish the price to be paid for the use of the money called the interest rate.

The interest rate represents the return on the lender's money. There are three important factors

which determine the rate, namely:

. the time value of money because the money can be used to earn more money

. the risk that the capital cannot be repaid may require a premium

. inflation Ð determined by spending power of money

The time value of money is very important and must be part of the calculations in capital

budgeting and capital investments. Alternatives can be sorted out in financial and

mathematical terms.

The time value of money has nothing to do with the accounting profit but is very important to

manage the cash flow situation.

278ACN202R/1

Period can mean per day, per week, per month, quarterly or annually.

Term represents the number of periods involved.

Interest rate is the rate of return on the capital payable at the end of a certain period, expressed

as a percentage.

Discounted rate is used when the return on the capital is payable in the beginning of the period

(paid in advance), also expressed as a percentage.

1.1.1 Time value of money

Take note of the factors which give rise to the fact that an amount of money receivable today is

worth more than the same amount receivable some time in future.

1.1.2 Future and present values

Read through this section. Distinguish between the process of accumulation and the process of

discounting.

1.1.3 Simple and compound interest

Note the difference between simple and compound interest.

1.1.4 The concept ``annuity''

Read through this section and make sure that you understand the concept of an annuity.

1.1.5 Types of interest tables published

Take note of the four major tables which are published.

1.2 SIMPLE INTEREST

Study this section and work through the example. Make sure that you understand the

terminology and variables, and that you are able to apply the formula.

1.3 COMPOUND INTEREST

1.3.1 The future value of R1

Study this section and make sure that you understand how to apply the formula. Study the

requirements to calculate the fourth variable when three variables are given. Work through

example 3.

1.3.2 The future value of R1 per annum

Study this section and make sure that you understand how to apply the formula. Work through

example 4.

279ACN202R/1

1.3.3 The present value of R1


example 5.

1.3.4 The present value of R1 per annum


example 7.

1.4 PERPETUITIES

Study this section and make sure that you understand the concept of a perpetuity. Work

through example 7. Note that the present value of the perpetuity is determined at the

beginning of the first year, while the first payment is made at the end of the first year.

1.5 NOMINAL AND EFFECTIVE RATES OF INTEREST

Study this section and work through example 8. Distinguish between nominal and effective

rates of interest.

1.6 SUMMARY

Read through the summary.

By using discounted cash flow techniques and calculating present values, we can compare the

return on an investment in capital projects with an alternative equal risk investment in the

financial market. If the rate of return from the project is greater than a return from an equivalent

risk investment in the financial market, the net present value will be positive and vice versa.

1.7 SYMBOLS

Make sure that you know the meaning of each symbol.

1.8 FORMULAS

Make sure that you can apply all the formulas.

1.9 TEST YOURSELF QUESTIONS

Work through these questions, making sure that you understand what you have learnt.

1.10 QUESTIONS WITH ANSWERS

Work through the questions to ensure you are able to apply the theory to practical applications.

280ACN202R/1

SELF -ASSESSMENT


. explain basic time value of money concepts and terminology?

. calculate simple and compound interest?

. explain the relationship between present value, future value, interest rate and

number of periods?

. calculate any of the above variables, given three of the other variables?

281ACN202R/1

TOPIC E

LEASES (ONLY LESSEES)LEASES (ONLY LESSEES)(IAS 17/AC 105)(IAS 17/AC 105)

Learning outcome

Learners should be able to account for and disclose leases, in the financialstatements of lessees in terms of Generally Accepted Accounting Practice.

283ACN202R/1

Contents

1 Leases Ð (only lessees) 285

284ACN202R/1

STUDY UNIT

1Leases Ð (only lessees

Learning outcome

. Learners should account for leases in the statements of lessees.

. Learners should disclose leases in the statements of lessees.

OVERVIEW


Key concepts 285


1.1 Definitions 286

1.2 Classification of leases 288

1.3 Finance leases in the financial statements of lessees 289

1.3.1 Introduction 289

1.3.2 Finance charges 290

1.3.3 Depreciation 293

1.3.4 Disclosure 294

1.4 Operating leases in the financial statements of lessees 301

1.4.1 Disclosure 303

1.5 Schematic summary Ð lessees 308

Self-assessment 308

KEY CONCEPTS

. Lease

. Finance lease

. Operating lease

. Finance cost

. Depreciation

. Amortisation table

. Fair value

. Useful life

. Residual value

285ACN202R/1

ASSESSMENT CRITERIA

After having studied this topic you should be able to:

. Account for leases in the financial statements of lessees.

. Disclose leases in the financial statements of lessees.

IAS 17(AC 105) prescribes the appropriate accounting policies and disclosure to apply in

relation to finance and operating leases in the financial statements of the lessee.

Please note: For the purpose of this module all the implications of normal tax and capital

gains tax can be ignored.

1.1 DEFINITIONS

A lease is an agreement whereby the lessor conveys to the lessee in return for a payment or

series of payments the right to use an asset for an agreed period of time.

A finance lease is a lease that transfers substantially all risks and rewards incidental to

ownership of an asset. Title may or may not eventually be transferred.

An operating lease is a lease where the lessee is hiring the use of an asset for the specified

period, while substantially all of the risks and rewards incidental to ownership of the asset

remain with the lessor.

A non-cancellable lease is a lease that is cancellable only:

. upon the occurrence of some remote contingency;

. with the permission of the lessor;

. if the lessee enters into a new lease for the same or an equivalent asset with the same

lessor; or

. upon payment by the lessee of an additional amount such that, at inception, continuation of

the lease is reasonably certain.

The inception of the lease is the earlier of the date of the lease agreement or of a commitment

by the parties to the principal provisions of the lease. As at this date:

. a lease is classified as either an operating or a finance lease; and

. in the case of a finance lease, the amounts to be recognised at the commencement of the

lease term are determined.

The commencement of the lease term is the date from which the lessee is entitled to

exercise its right to use the leased asset. It is the date of initial recognition of the lease (i.e. the

recognition of the assets, liabilities, income or expenses resulting from the lease, as

appropriate).

The lease term is the non-cancellable period for which the lessee has contracted to lease the

asset together with any further terms for which the lessee has the option to continue to lease

the asset, with or without further payment, which option at the inception of the lease it is

reasonably certain that the lessee will exercise.

Minimum lease payments are the payments over the lease term that the lessee is, or can be

286ACN202R/1

required, to make excluding contingent rent, costs for services and taxes to be paid by and

reimbursed to the lessor, together with in the case of a lessee, any amounts guaranted by the

lessee or by a third party related to the lessee.

However, if the lessee has an option to purchase the asset at a price which is expected to be

sufficiently lower than the fair value at the date the option becomes exercisable that, at the

inception of the lease, is reasonably certain to be exercised, the minimum lease payments

comprise of the minimum payments payable over the lease term and the payment required to

exercise this purchase option.

Fair value is the amount for which an asset could be exchanged or a liability settled, between

knowledgeable, willing parties in an arm's length transaction.

Economic life is either:

. the period over which an asset is expected to be economically usable by one or more users,

or

. the number of production or similar units expected to be obtained from the asset by one or

more users.

Useful life is the estimated remaining period, from the beginning of the lease term, without

limitation by the lease term, over which the economic benefits embodied in the asset are

expected to be consumed by the enterprise.

Guaranteed residual value is, in the case of the lessee, that part of the residual value which is

guaranteed by the lessee or by a party related to the lessee (the amount of the guarantee being

the maximum amount that could, in any event, become payable).

Unguaranteed residual value is that portion of the residual value of the leased asset, the

realisation of which by the lessor is not assured or is guaranteed solely by a party related to the

lessor.

The interest rate implicit in the lease is the discount rate that, at the inception of the lease,

causes the aggregate present value of the minimum lease payments and the unguaranteed

residual value to be equal to the fair value of the leased asset plus any initial direct costs.

The lessee's incremental borrowing rate of interest is the rate of interest the lessee would

have to pay on a similar lease, or, if that is not determinable, the rate that, at the inception of the

lease, the lessee would incur to borrow over a similar term, and with a similar security, the

funds necessary to purchase the asset.

Contingent rent is that portion of the lease payments that is not fixed in amount but is based

on a factor other than just the passage of time (e.g. percentage of sales, amount of usage,

price indices, market rates of interest).

Initial direct costs are incremental costs that are directly attributable to negotiating and

arranging a lease, except for such costs incurred by manufacturer or dealer lessors.

The definition of a lease includes contracts for the hire of an asset which contain a provision

giving the hirer an option to acquire title to the asset upon the fulfilment of agreed conditions.

These contracts are sometimes known as hire purchase contracts.

Normally when an enterprise purchases an asset for use in its business, it acquires both the

legal title to the asset and the risks and rewards of ownership. The enterprise therefore raises

an asset in the statement of financial position and depending on how the purchase was

financed, records a liability or reduces the cash resources of the company.

287ACN202R/1

The accounting implications are not so straight forward when the right to use an asset but not

the legal title of the asset is acquired. Lease agreements and instalment sale agreements often

split the benefits of ownership from the legal title of an asset. The problem then arises which

party should be recording the asset in its statement of financial position.

IAS 17(AC 105) should be applied in accounting for all leases other than:

. lease agreements to explore for or use natural resources, such as oil, gas, timber, metals

and other mineral rights, and

. licensing agreements for such items as motion picture rights, video recordings, plays,

manuscripts, patents and copyrights.

IAS 17(AC 105) shall not be applied as the basis of measurement for:

. property held by lessees that is accounted for as investment property;

. investment property provided by lessors under operating leases;

. biological assets held by lessees under finance leases; or

. biological assets provided by lessors under operating leases.

1.2 CLASSIFICATION OF LEASES

Whether a lease is a finance lease or an operating lease depends on the substance of the

transaction rather than the legal form of the contract.

A lease is classified as a finance lease if it transfers substantially all the risks and rewards

incidental to ownership. A lease is classified as an operating lease if it does not transfer

substantially all the risks and rewards incidental to ownership.

The classification of leases is based on the extent to which risks and rewards incidental to

ownership of a leased asset lie with the lessor or the lessee.

In considering whether the risks and rewards of ownership have been transferred from the

lessor to the lessee the following points can be taken into account:

. Risks include the possibilities of losses from idle capacity or technological obsolescence

and of variations in return due to changing economic conditions.

. Rewards may be represented by the expectation of profitable operation over the asset's

economical life and of gain from appreciation in value or realisation of a residual value.

Examples of situations which would normally lead to a lease being classified as a finance

lease are:

. the lease transfers ownership of the asset to the lessee by the end of the lease term;

. the lessee has the option to purchase the asset at a price which is expected to be

sufficiently lower than the fair value at the date the option becomes exercisable. It is

therefore at the inception of the lease, reasonably certain that the option will be exercised;

. the lease term is for the major part of the economic life of the leased asset even if the title is

not transferred;

. at the inception of the lease the present value of the minimum lease payments amounts to

at least substantially all of the fair value of the leased asset; and

. the leased assets are of a specialised nature such that only the lessee can use them

without major modifications being made.

Indicators of situations which individually or in combination could also lead to a lease being

classified as a finance lease are:

288ACN202R/1

. if the lessee can cancel the lease, the lessor's losses associated with the cancellation are

borne by the lessee;

. gains or losses from the fluctuations in the fair value of the residual value fall to the lessee

(for example in the form of a rent rebate equalling most of the sales proceeds, at the end of

the lease); and

. the lessee has the ability to continue the lease for a secondary period at a rent which is

substantially lower than market rent.

Lease classification is made at the inception of the lease. If at any time the lessee and the

lessor agree to change the provisions of the lease, other than renewing the lease, in a manner

that would have resulted in a different classification of the lease, the revised agreement is

considered a new agreement over its term. Changes in estimates (for example, changes in

estimates of the economic life or of the residual value of the leased property) or changes in

circumstances (for example, default by the lessee) however do not give rise to a new

classification of a lease for accounting purposes.

Leases of land and buildings are classified as operating or finance leases in the same way as

leases of other assets. However a characteristic of land is that it normally has an indefinite

economic life and, if title is not expected to pass to the lessee by the end of the lease term, the

lessee does not receive all of the risks and rewards incidental to ownership, in which case the

lease of land will be an operating lease. A premium paid for such a leasehold represents

prepaid lease payments which are amortised over the lease term in accordance with the

pattern of benefits provided.

The land and building elements of a lease of land and buildings are considered seperately for

the purpose of lease classification. If title to both elements is expected to pass to the lessee by

the end of the lease term, both elements are classified as a finance lease, whether analysed as

one lease or as two leases, unless it is clear from other features that the lease does not transfer

substantially all risks and rewards incidental to ownership of one or both elements. When the

land has an indefinite economic life, the land element is normally classified as an operating

lease unless title is expected to pass to the lessee by the end of the lease term, in accordance

with paragraph 14. The buildings element is classified as a finance or operating lease in

accordance with paragraph 7 to 13.

Whenever necessary in order to classify an account of lease of land and buildings, the

minimum lease payments (including any lump-sum upfront payments) are allocated between

the land and the buildings elements in proportion to the relative fair values of the leasehold

assets (land and buildings) at the inception of the lease. If the lease payments cannot be

allocated reliably between these two elements, the entire lease is classified as an operating

lease.

Although it is stated in previous paragraphs that a lessee should generally separate the land

and building elements in respect of a single lease agreement, this split is not required if the

lessee's interest in both land and buildings is classified as an investment property and carried

at fair value.

1.3 FINANCE LEASES IN THE FINANCIAL STATEMENTS OFLESSEES

1.3.1 Introduction

Lessees should recognise finance leases as assets and liabilities in their statement of financial

position at amounts equal at the inception of the lease to the fair value of the leased asset or, if

lower, at the present value of the minimum lease payments. In calculating the present value of

289ACN202R/1

the minimum lease payments the discount factor is the interest rate implicit in the lease, if this is

practical to determine; if not, the lessee's incremental borrowing rate should be used. Any initial

direct costs of the lessee are added to the amount recognised as an asset.

Transactions must be accounted for and presented in accordance with their substance and

financial reality and not merely with their legal form. While the legal form of a lease agreement

is that the lessee may acquire no legal title to the leased asset, in the case of a finance lease

the substance and financial reality are that the lessee acquires the economic benefits of the

use of the leased asset for the major part of its economic life in return for entering into an

obligation to pay for that right an amount approximating to the fair value of the asset and the

related finance charge.

The accounting implications of a finance lease are as follows:

. An asset is separately recognised in the statement of financial position as a leased asset.

The leased asset is depreciated over the shorter of the lease term or the asset's useful life,

if there is not reasonable certainty that the lessee will obtain ownership by the end of the

lease term.

. A liability is recognised in the statement of financial position as a secured interest bearing

finance lease liability.

. The interest paid/finance charges on the liability and the depreciation on the asset are

separately disclosed in the statement of comprehensive income.

It is not appropriate to disclose the liabilities for leased assets as a deduction from the leased

assets in the financial statements.

Initial direct costs are often incurred in connection with specific leasing activities, as in

negotiating and securing leasing arrangements. The costs identified as directly attributable to

activities performed by the lessee for a finance lease, for example legal fees and commission,

are included as part of the amount recognised as an asset under the lease.

1.3.2 Finance charges

Lease payments should be apportioned between the finance charge and the reduction of the

outstanding liability. The finance charge should be allocated to periods during the lease term so

as to produce a constant periodic rate of interest on the remaining balance of the liability for

each period.

An amortisation table is prepared to calculate this split. The method used to calculate the

apportionment is the effective interest rate method.

When calculating the interest, the following must be taken into account:

. The nominal interest rate is used to calculate the finance charges included in the lease

payment, if the lease payments are payable more than once a year.

. If the lease payments are payable annually, the nominal interest rate equals the effective

interest rate.

. The effective interest rate is disclosed in the note in respect of liabilities relating to

capitalised leased assets.

. The flat rate is the interest rate that is calculated every year of the repayment term, on the

full original outstanding capital amount before taking into account any interim repayments

and added to the capital amount, in order to determine the total amount to be repaid.

In leasing transactions, it is often practice to quote a flat rate of interest per annum based on

the cash price of the asset in question.

290ACN202R/1

The following details are relevant to the lease of a motor vehicle:

Cash price: R16 000

Instalments: Repayable in 24 equal instalments at the end of each month

Flat rate: 10 percent per year over 2 years

The monthly instalment is determined as follows:

R

Cash price 16 000

Interest Year 1 (16 000 6 10%) 1 600

Year 2 (16 000 6 10%) 1 600

19 200

; Instalment (19 200/24) = R800 per month

The following two examples illustrate the application of the effective interest rate method in the

calculation of the interest portion of the lease payment.

Take note of the difference in calculating the interest if the payment is made in advance

or in arrears.

Example 1

Effective interest rate method Ð payment in arrears

A company leased an asset over a period of 2 years. The cost of the asset was R40 000. An

instalment of R12 600 is payable half yearly in arrears.

The effective interest rate is 20,85 percent.

The nominal interest rate is 19,86 percent.

Required

Calculate the interest and capital repayments of the above lease for the two years.

291ACN202R/1

Solut ion 1

Amortisation table

Opening

balance outstanding Interest Capital Instalments

R R R R

40 000 3 972 1 8 628 12 600

31 372 3 115 9 485 12 600

21 887 2 173 10 427 12 600

11 460 1 140 11 460 12 600

10 400 40 000 50 400

1 [40 000 6 (19,86%/2)]

or

Use HP financial calculator to prepare

amortisation table:

Use Sharp Financial calculator to prepare

amortisation table:

n = 4 (262) n = 4

i = 9,93% (19,86%/2) i = 9,93%

PV = 40 000 PV = 40 000

pmt = ±12 600 pmt = ±12 600

FV = 0 FV = 0

Then select ``OTHER'' and ``AMRT'' Select 1 AMRT = Capital 1

Insert 1#P and then choose INT in order to

calculate interest and PRIN to calculate

capital.

AMRT = Interest 1

Then select NEXT to calculate the same for

the other 3 instalments.

Select 2 AMRT = Capital 2

NB: Please ensure that the calculator is on

END MODE before commencing with cal-

culations.

AMRT = Interest 2

Example 2

Effective interest rate method Ð payment in advance

A company leased an asset over a period of 2 years. The cost of the asset was R40 000. An

instalment of R11 470 is payable half-yearly in advance.

The effective interest rate is 20,97% and the nominal interest rate is 19,976%.

REQUIRED

Calculate the interest and capital repayments of the above lease for the two years.

292ACN202R/1

Solut ion 2

Amortisation table

R

Capital 40 000

Less: Instalment (paid in advance, no interest accrued yet) (11 470)

28 530

Interest 1st six months 2 850 1

Less: Instalment (11 470)

19 910

Interest 2nd six months 1 989


10 429

Interest 3rd six months 1 041


Ð

1 [28 530 6 (19,976%/2)]

1.3.3 Depreciation

A finance lease gives rise to a depreciation expense for the asset as well as a finance expensefor each accounting period. The depreciation policy for leased assets should be consistent withthat for depreciable assets which are owned, and the depreciation recognised should becalculated on the basis set out in the statement on depreciation accounting and in thestatement on property, plant and equipment. If there is no reasonable certainty that the lesseewill obtain ownership by the end of the lease term, the asset should be fully depreciated overthe shorter of the lease term or its useful life.

The depreciable amount of a leased asset is allocated to each accounting period during theperiod of expected use on a systematic basis consistent with the depreciation policy the lesseeadopts for depreciable assets that are owned. If there is reasonable certainty that the lesseewill obtain ownership by the end of the lease term, the period of expected use is the useful lifeof the asset; otherwise the asset is depreciated over the shorter of the lease term or its usefullife.

Please note: The initial direct costs will be added to the cash price of the asset and will

therefore be depreciated over the same period as the cash price of the asset

The sum of the depreciation expense for the asset and the finance expense for the period israrely the same as the lease payments payable for the period, and it is, therefore, inappropriatesimply to recognise the lease payments payable as an expense in the statement ofcomprehensive income. Accordingly, the asset and the related liability are unlikely to be equalin amount after the inception of the lease.

293ACN202R/1

Example 3

The transactions will be recorded as follows, assuming the following information:

Cost of asset: R114 000

Instalment: R74 618 (payable annually in arrears)

Effective interest rate: 20% per annum

Lease term: 2 years

Depreciation: 20% per annum straight-line

Solut ion 3

Amortisation table

Date Interest Instalment Capital Closing

balance

R R R R

Year 0 114 000

Year 1 22 800 74 618 51 818 62 182

Year 2 12 436 74 618 62 182 Ð

35 236 149 236 114 000

Journal entries Dr

R

Cr

R

Year 1

Asset 114 000

Interest-bearing borrowing 114 000

Recording of lease agreement

Interest-bearing borrowing (74 618 7 22 800) 51 818

Interest paid (114 000 6 20%) 22 800

Bank 74 618

Allocation of lease instalment in year 1

Depreciation (SCI) 22 800

Accumulated depreciation (SFP) 22 800

Depreciation charge for the year

1.3.4 Disclosure

Lessees should, in addition to the requirements of the standard on Financial Instruments:

disclosure and presentation (this standard does not form part of this module), make the

following disclosures for finance leases:

. For each class of asset, the net carrying amount at the statement of financial position date.

. A reconciliation between the total of future minimum lease payments at the end of the

reporting period and their present value. In addition, an enterprise should disclose the total

of future minimum lease payments at the end of the reporting period, and their present

value, for each of the following periods:

ii(i) Not later than one year.

i(ii) Later than one year and not later than five years.

(iii) Later than five years.

294ACN202R/1

. Contingent rents recognised as an expense for the period.

. The total of future minimum sublease payments expected to be received under non-

cancellable subleases at the statement of financial position date.

. A general description of the lessee's significant leasing arrangement including, but not

limited to, the following:

ii(i) The basis on which contingent rent payments are determined.

i(ii) The existence and terms of renewal or purchase options and escalation clauses.

(iii) Restrictions imposed by lease arrangements, such as those concerning dividends,

additional debt, and further leasing.

In addition, the disclosure requirements of the standard on Property, Plant and Equipment

IAS 16(AC 123) and Investment Property IAS 40(AC 135) apply to the amounts of capitalised

finance lease assets.

Work through the following detailed examples of finance leases:

Example 4

Finance lease

Cleveland Limited leased five passenger vehicles from Finance Limited on 1 January 19.8.

The conditions of the lease agreement were as follows:

. The cash price of each passenger vehicle is R45 000.

. Lease payments are made half yearly in arrears, over a period of 3 years.

. The annual interest rates are as follows:

Flat rate Ð 12%

Nominal rate Ð 19,12%

Effective rate Ð 20,03%

. The lessee may on expiry of the contract, take over the passenger vehicle on payment of a

nominal amount and has the right to cancel the contract whereby the company would be

responsible for paying the total capital sum outstanding as determined by the lessor at date

of cancellation.

The company provides for depreciation according to the straight-line method over the useful life

of the assets. The useful life of each passenger vehicle is considered to be 5 years.

The company uses the effective interest rate method to write off finance costs.

Required:

Disclose the lease transaction in the annual financial statements of Cleveland Limited for

the year ended 30 June 19.10. Your answer must comply with the requirements of the

Companies Act, 1973 and Generally Accepted Accounting Practice. (Comparative figures

are required.)

295ACN202R/1

Solut ion 4

CLEVELAND LIMITED

EXTRACT FROM STATEMENT OF FINANCIAL POSITION AS AT30 JUNE 19.10

Notes 19.10

R

19.9

R

ASSETS

Non-current assets

Property, plant and equipment 3 112 500 157 500


Total liabilities 46 531 127 803


Long-term borrowing 4 Ð 46 531

Current liabilities

Current portion of long-term borrowing 4 46 531 81 272

CLEVELAND LIMITED

EXTRACT FROM STATEMENT OF COMPREHENSIVE INCOME FOR THEYEAR ENDED 30 JUNE 19.10

Notes 19.10

R

19.9

R

Profit before tax 2 xxx xxx

Income tax expense (xxx) (xxx)

Profit for the year xxx xxx


Total comprehensive income for the year xxx xxx

CLEVELAND LIMITED


1. Accounting policies

The company's financial statements are prepared on the historical cost basis and conform with

Generally Accepted Accounting Practice. The company incorporates the following accounting

policies which are consistent with those applied in previous years:

1.1 Property, plant and equipment

Property, plant and equipment is shown at cost price less accumulated depreciation. Motor

vehicles leased under capitalised finance lease agreements are written off over their useful

lives according to the straight-line method.

Motor vehicles Ð 5 years

296ACN202R/1

1.2 Lease agreements

Finance costs are written off over the term of the agreement according to the effective interest

rate method.


Profit before tax is stated after taking into account the following items:

19.10

R

19.9

R


Interest paid (2) 20 728 34 293

Please note that depreciation on capitalised leased assets should be included as part of the

depreciation charge for the year in respect of the relevant class of fixed assets and finance

charges should be included as part of the total interest charge.

3. Property, plant and equipment

19.10

R

19.9

R

Motor vehicles Ð finance lease assets

Carrying amount at beginning of year 157 500 202 500

Cost 225 000 225 000

Accumulated depreciation (3) (67 500) (22 500)

Depreciation for the year (3) (45 000) (45 000)

Carrying amount at end of year 112 500 157 500

Cost 225 000 225 000


The motor vehicles serve as security for a finance lease agreement. (Refer note 4.)

4. Long-term borrowing 19.10

R

19.9

R

Total liability under capitalised finance lease 46 531 127 803

Current portion payable within 1 year (46 531) (81 272)

Long-term portion of finance lease liability Ð 46 531

The above liability is secured by finance lease agreements in respect of motor vehicles

(note 3). The effective interest rate is 20,03% per annum. Half yearly instalments of R51 000

are payable commencing on 1 January 19.8 with a final payment on 30 June 19.10. The

agreement does not provide for contingent rent payments.

Ownership will pass to Cleveland Limited after payment of a nominal amount.

297ACN202R/1

Reconciliation between the total minimum lease payments and their present value:

At 30 June 19.10Up to

1 year

1 to 5

years

Total

R R R

Amount at statement of financial position 51 000 Ð 51 000

Finance cost (2) (4 469) Ð (4 469)

Present value 46 531 Ð 46 531

At 30 June 19.9Up to

1 year

1 to 5

years

Total

R R R

Amount at statement of financial position date 102 000 51 000 153 000

Finance cost (2) (20 728) (4 469) (25 197)

Present value 81 272 46 531 127 803

Calculations

1. InstalmentsR

Cost price of motor vehicles (45 000 6 5) 225 000

Flat rate interest (12% 6 225 000 6 3) 81 000

306 000

; R306 000/6 = R51 000

2. Amortisation table

(Follow the same steps as explained in example 2, in order to compile this table)

Opening

balance

outstanding

R

Interest

R

Capital

R

Instalments

R

30.6.19.8 225 000 21 510 29 490 51 000

31.12.19.8 195 510 18 691 1 32 309 51 000

30.6.19.9 163 201 15 602 2 35 398 51 000

31.12.19.9 127 803 12 218 3 38 782 51 000

30.6.19.10 89 021 8 510 4 42 490 51 000

31.12.19.10 46 531 4 469 46 531 51 000

81 000 225 000 306 000

1 + 2 = 34 293 3 + 4 = 20 728

3. Depreciation R

Cost price of motor vehicles 225 000

Depreciation per year (225 000/5) 45 000

Accumulated depreciation:

Year end: 30 June 19.8 (45 000 6 �) 22 500

30 June 19.9 (45 000 6 1�) 67 500

30 June 19.10 (45 000 6 2�) 112 500

298ACN202R/1

Example 5

Finance lease

A manufacturing concern, Leasecon Limited entered into a lease agreement on 1 January 19.6

whereby two machines with a cost price of R412 500 would be leased from a finance company.

The period of the lease is 3 years and the lease payments of R49 205 are payable quarterly in

arrears. Leasecon Limited will obtain ownership of the machines at the end of the lease term on

payment of a nominal amount. Leasecon Limited paid R22 000 legal fees for negotiating the

lease.

The following information applies to the above lease:

Nominal interest rate: 24,005% p.a.

Effective interest rate: 26,25% p.a.

The machines will be depreciated over their expected useful lives of 4 years on the straight-line

method.

The company's financial year end is 31 December.

Required

(a) Prepare the journal entries of Leasecon Limited for the year ended 31 December 19.6.

(b) Prepare the notes to the financial statements of Leasecon Limited at 31 December

19.6 in respect of the above lease. Your answer must comply with the requirements of

the Companies Act, 1973 and Generally Accepted Accounting Practice.

Solut ion 5

(a) Journal entries

Dr

R

Cr

R

Machinery Ð finance lease assets 22 000

Bank 22 000

Machinery Ð finance lease assets 412 500

Liability under finance lease agreement 412 500

Liability under finance lease agreement (B) 106 960

Lease finance charges (A) 89 860

Bank (4 6 49 205) 196 820

Depreciation 108 625

Accumulated depreciation 108 625

Liability under finance lease agreement (C) 135 042

Current portion of liability under finance lease

agreement

135 042

A = ( 1 + 2 + 3 + 4 ) refer to amortisation table

B = ( 5 + 6 + 7 + 8 ) refer to amortisation table

C = ( 9 + *10 + *11 + *12 ) refer to amortisation table

299ACN202R/1

(b) Disclosure

LEASECON LIMITED


1. Accounting policy

The company's financial statements are prepared on the historical cost basis and conform with

Generally Accepted Accounting Practice. They incorporate the following accounting policies

which are consistent with those applied in previous years.

1.1 Property, plant and equipment Ð leased assets

Assets under finance leases are depreciated on the straight-line method over their expected

useful lives of 4 years.


Lease payments are allocated between finance charges and capital reduction in the liability by

means of the effective interest rate method.


Profit before tax is stated after taking into account the following items:

R

Depreciation (2) 108 625

Finance charges 89 860

(Shown as part of total finance charges and part of total depreciation in respect of the property,

plant and equipment class, namely machinery.)

3. Property, plant and equipment

R

Leased machinery

Carrying amount at beginning of year Ð

Cost Ð

Accumulated depreciation Ð

Additions 434 500


Carrying amount at end of year 325 875

Cost 434 500

Accumulated depreciation (108 625)

The machinery serves as security for a finance lease (Refer note 4)

4. Long-term borrowing R

Total liability under finance lease agreement 305 540

Current portion payable within 1 year (135 042)

Long-term portion of finance lease liability 170 498

The above liability is secured by machinery (refer note 3) under a finance lease agreement.

The loan bears interest at an effective rate of 26,25% per annum. The loan is repayable in 12

equal quarterly payments of R49 205 commencing on 1 January 19.6.

300ACN202R/1

The period of the lease is 3 years. Leasecon Limited will obtain ownership of the machines atthe end of the lease term on payment of a nominal amount.

Reconciliation between the total of minimum lease payments at 31 December 19.6 andtheir present value:

Up to 1year

R

1 to 5years

RTotal

R

Amount at statement of financial position date 196 820 196 820 393 640Finance cost (61 778) (26 322) (88 100)

Present value 135 042 170 498 305 540

Calculations

1. Amortisation table*Opening

balance

outstanding

R

Interest

R

Capital

R

Instalments

R

31.3.19.6 412 500 24 755 1 24 450 5 49 205

30.6.19.6 388 050 23 288 2 25 917 6 49 205

30.9.19.6 362 133 21 733 3 27 472 7 49 205

31.12.19.6 334 661 20 084 4 29 121 8 49 205

31.3.19.7 305 540 18 336 30 869 9 49 205

30.6.19.7 274 671 16 484 32 721 49 205

30.9.19.7 241 950 14 520 34 685 49 205

31.12.19.7 207 265 12 438 36 767 49 205

31.3.19.8 170 498 10 232 38 973 49 205

30.6.19.8 131 525 7 893 41 312 49 205

30.9.19.8 90 213 5 414 43 791 49 205

31.12.19.8 46 422 2 783 46 422 49 205

177 960 412 500 590 460

Use financial calculator and insert the following:

n = 12 (3 6 4)

i = 6,00125% (24,005%/4)

PV = 412 500

pmt = ± 49 205

FV = 0

Then use the AMRT function to compile table.

2. Depreciation

(412 500 + 22 000)6 25% = 108 625

1.4 OPERATING LEASES IN THE FINANCIAL STATEMENTSOF LESSEES

An operating lease is a lease whereby the risks and rewards of ownership are not transferred tothe lessee but stays with the lessor. To determine whether or not a lease constitutes anoperating lease, one has to subject a specific lease to the classification criteria set out in section1.2 above. Only if it is evident that none of the criteria or set of conditions mentioned above areapplicable to the specific lease agreement, can it be classified as an operating lease.

The liability of the lessee is limited to the lease payment. The lease payments and initial directcosts (e.g. legal fees and commission) under an operating lease should be recognised as anexpense in the statement of comprehensive income on a straight-line basis over the lease term

301ACN202R/1

unless another systematic basis is representative of the time pattern of the user's benefit. Thisis normally achieved by charging lease payments, as they occur. If lease payments are notdirectly related to the period over which the benefit is derived, the lease payments need to bedeferred or provision must be made for future lease payments.

The following conditions may require lease payments to be deferred or provision made forfuture payments in order to relate the charge of the lease payments against income to thebenefits derived:

. lease payments not spread equally over the lease term;

. lease payments made prior to bringing the leased asset into use;

. the initial term of the lease is significantly less than the period over which benefit is to bederived and the lease is likely to be renewed at lease payments significantly less or morethan the initial lease payments.

Work through the following example:

Example 6

Operating lease

The terms of an operating lease are as follows:

Lease term 4 years

Initial payment R14 400

Instalment payable monthly in arrears: months 1 ± 24 R2 000

months 25 ± 48 R1 000

The lessee incurred R4 800 legal fees for negotiating the lease

REQUIRED

Describe the accounting treatment and disclosure of this operating lease in the annual

financial statements.

Solut ion 6

The payment structure of the above lease does not reflect the consumption of economicbenefits (i.e. the matching of costs incurred with income earned). The lease payments aretherefore equalised over the period of the lease.

R

Initial payment 14 400Instalments Ð 1st two years (24 6 2 000) 48 000Instalments Ð 2nd two years (24 6 1 000) 24 000

86 400

Equalisation of lease payments (86 400/48) 1 800

The implication of the equalisation of lease payments is that a portion of lease payments will bedeferred for the year or a portion will have to be provided for. If lease payments are deferred thedeferred portion is described as ``Deferred lease payments'' and shown as part of currentassets in the statement of financial position. If provision is made for lease payments the portionprovided for is described as ``Provision for lease payments'' and shown under current liabilitiesin the statement of financial position.

302ACN202R/1

In the first year of the example:

R

Initial payment 14 400

Instalments (12 6 2 000) 24 000

Lease instalments paid for the year 38 400

Lease payments per I/S (1 800 6 12) 21 600

; R16 800 (38 400 ± 21 600) of the lease instalments have been deferred.

Lease instalments would be disclosed in the notes to the statement of comprehensive income

as follows:

Included under ``Profit before tax''

R

Operating lease Ð machinery 21 600

Paid for the year 38 400

Deferred lease payments (16 800)

R16 800 would be included under current assets as ``Deferred lease payments'' in the

statement of financial position.

The initial direct costs should also be equalised over the period of the lease.

Equalisation (R4 800/48) 100

The implication of the equalisation of the legal fees is that a portion of the legal fees will be

deferred for the year. The deferred portion will be described as deferred legal fees and shown

as a current asset in the statement of financial position.

The legal fees that will be included in the profit before tax will be R1 200 (100 6 12). R3 600

will be included under current assets as ``Deferred legal fees'' in the statement of financial

position.

1.4.1 Disclosure

Lessees should, in addition to the requirements of the standard on Financial Instruments:

disclosure and presentation (this standard does not form part of this module), make the

following disclosures for operating leases:

. The total of future minimum lease payments under non-cancellable operating leases for

each of the following periods:

ii(i) Not later than one year.

i(ii) Later than one year and not later than five years.

(iii) Later than five years.

. The total of future minimum sublease payments expected to be received under non-

cancellable subleases at the statement of financial position date.

. Lease and sublease payments recognised in income for the period, with separate amounts

for minimum lease payments, contingent rents, and sublease payments.

. A general description of the lessee's significant leasing arrangements including, but not

limited to, the following:

ii(i) The basis on which contingent rent payments are determined.

i(ii) The existence and terms of renewal or purchase options and escalation clauses.

303ACN202R/1

(iii) Restrictions imposed by lease arrangements, such as those concerning dividends,

additional debt, and further leasing.

Example 7

Operating lease

Edmonton Limited is a manufacturing concern involved in the production of floor tiles.

Previously, all machinery purchased by the company was financed by means of hire-purchase

agreements. During the year ended 30 June 19.8 Edmonton Limited acquired machinery which

was obtained in terms of operating lease agreements.

The following information in respect of the lease agreements is available:

Agreement 1

Monthly instalments payable in advance R15 820

Cash price of asset R450 000

Period of lease: 1 October 19.7 to 30 September 19.10

Agreement 2

Commencement date of lease: 1 August 19.7

Cash price of asset R320 000

Period of lease 24 months

Payments terms:

Months 1±16 R20 535 per month

17±24 R4 440 per month

The bookkeeper prepared the note to be disclosed in respect of profit before tax in the annual

financial statements for the year ended 30 June 19.8, as follows:

R

Lease instalments Ð Agreement 1 142 380

Ð Agreement 2 225 885

Ð Building 174 000


The lease instalment of the building is as a result of an operating lease and is based on a basic

rental of R10 000 per month, plus 1% of the monthly manufacturing cost of production of tiles in

excess of 1 000 000 tiles. The excess production of tiles for the year ended 30 June 19.8 was

in total 5 400 000 tiles. Each tile costs R1 to manufacture. One floor of the building is sublet to

Redman Limited for R1 900 per month. The floor was sublet from 30 November 19.7. The

remaining period of this lease agreement at 30 June 19.8 is 6 years and there is an option to

renew the lease thereafter at terms to be negotiated at that stage.

The tax rate is 29%. The profit before tax, before taking above transactions into account is

R1 050 000.

REQUIRED

(a) Prepare the journal entries of Edmonton Limited for the year ended 30 June 19.8.

(b) Prepare the notes to the financial statements of Edmonton Limited for the year ended

30 June 19.8. Your answer must comply with the requirements of the Companies Act

1973 and Generally Accepted Accounting Practice.

304ACN202R/1

Solut ion 7

(a) Journal entries

Dr Cr

R RAgreement 1Lease instalments: Machinery (15 820 6 9) 142 380

Bank 142 380Lease instalments paid for the year

Agreement 2:Lease instalments: Machinery (20 535 6 11) 225 885

Bank 225 885Lease instalments paid for the year

Deferred lease payments 59 015Lease instalments: Machinery 59 015

Lease instalments equalised over the lease term(calculation 1)

Building:Operating lease payments Ð Building 174 000

Bank 174 000Lease payments for the year (calculation 2)

Bank 13 300Rental income (1 900 6 7) 13 300

Rental income received on sub-lease agreement

Current tax:Current tax expense 151 100

South African Revenue Service 151 100Current tax provision for the year (calculation 3)

(b) Disclosure

EDMONTON LIMITED


1. Accounting policy


Lease instalments in respect of operating leases are charged against profit in such a way as to

ensure matching of revenue and cost.


Profit before tax is stated after taking the following items into account:

R

Rental income Ð sublease a portion of building (1 900 6 7) 13 300

Lease instalments on machinery (1) 309 250

Paid for the year (225 885 + 142 380) 368 265

Deferred (59 015)

Operating lease payments Ð building (2) 174 000

305ACN202R/1

3. Income tax expense

SA Normal:

Current tax expense (3) 151 100

4. Operating lease agreements

The company has three operating lease agreements. The details of the agreements are

summarised below:

Agreement 1:

Machinery is leased at monthly instalments of R15 820, payable in advance. The period of the

lease is from 1 October 19.7 to 30 September 19.10. No details regarding the renewing and

purchase options are available. The future minimum lease payments are:

Up to 1 year 1 to 5 years

R R

189 840 1 237 300 2

1 15 820 6 12 2 15 820 6 (36 ± 9± 12)

Agreement 2:

Machinery is leased monthly, from 1 August 19.7 to 1 July 19.9. The period of the lease is 24

months, payable in advance. The payment terms are:

Month 1±16 R20 535 per month

Month 17±24 R4 440 per month

The future minimum lease payments are:

Up to 1 year 1 to 5 years

R R

133 755 1 4 440

1 (16 ± 11) 6 20 535 = 102 675

7 6 4 440 = 31 080

133 755

R

Deferred lease payments in terms of operating lease agreement 2 59 015

Less: Short-term portion (calculation 1) (48 285)

10 730

Agreement 3:

A building is leased and the lease agreement is based on a basic rental of R10 000 per month,

plus 1% of the monthly manufacturing cost of production of tiles in excess of 1 000 000 tiles.

One floor of the building was sublet for R1 900 per month. This lease will lapse after 6 years

but the company has the option to renew the lease at terms to be negotiated at that stage. The

future minimum lease payments are:

Up to 1 year 1 to 5 years Later than 5 years

R R R

120 000 480 000 120 000

306ACN202R/1

Calculations

1. Equalisation of lease payments

Agreement 2

R

Months: 1±16 (20 535 6 16) 328 560

17±24 (4 440 6 8) 35 520

364 080

Spread evenly over 24 months (364 080/24) 15 170

Instalments

paid

Equalise

lease

payments

Deferred

lease

payments

Year end 30 June 19.8 225 885 1 166 870 2 59 015

Year end 30 June 19.9 133 755 3 182 040 4 (48 285)

Closing balance of deferred lease

payments

10 730

For year end 30 June 20.0 4 440 5 15 170 6 (10 730)

Closing balance of deferred lease

payments

0

1 20 535 6 11 5 4 440 6 1

2 15 170 6 11 6 15 170 6 1

3 (20 5356 5) + (4 4406 7)

4 15 170 6 12

2. Lease instalments in respect of building

R

Basic lease instalments (12 6 10 000) 120 000

Lease based on excess production 54 000

(5 400 000 6 R1 6 1%)

Lease payments 174 000

3. Current tax

R

Profit before tax (given) 1 050 000

Plus: Rental income received (R1 900 6 7) 13 300

Less: Lease instalments: Agreement 1 (R15 820 6 9) (142 380)

Lease instalments: Agreement 2 (225 885)

Lease payments Ð building (2) (174 000)

521 035

Current tax @ 29% 151 100

307ACN202R/1

Lease payments

Nature

Finance lease

Capitalise anasset and record

liability

Operating lease

Payments chargedagainst profit on asystematic basis

!

!

!

!

1.5 SCHEMATIC SUMMARY Ð LESSEES

The following is a schematic summary of Standard IAS 17(AC 105) in respect of the treatment

of a finance or operating lease in the financial statements of lessees:

SELF -ASSESSMENT


. Account for leases in the financial statement of lessees?

. Disclose leases in the financial statement of lessees?

308ACN202R/1

TOPIC F

VALUATION OF FINANCIALVALUATION OF FINANCIALINSTRUMENTSINSTRUMENTS

Learning outcome

Learners can determine the valuation procedures of real assets and financialassets and can determine the value of ordinary shares, preference shares anddebt after applying the different valuation methods.

309ACN202R/1

Contents

1 Valuation of financial assets 311

2 Shareholders' equity ± ordinary shares 313

3 Shareholders' equity ± preference shares 315

4 Outside funding (debt) 318

5 Financial instruments 320

310ACN202R/1

STUDY UNIT

1Valuation of financial assets

Learning outcome

Learners can explain the differences between real assets and financial assets.

OVERVIEW


Key concepts 311



1.2 Definition of valuation 312

1.3 Real assets and financial assets 312

Self-assessment 312

KEY CONCEPTS

. Valuation

. Financial management

. Market value

. Liquidation value

. Going concern value

. Real assets

. Financial assets

ASSESSMENT CRITERIA

After having studied this study unit you should be able to:

. define valuations

. explain the difference between real assets and financial assets

. explain the difference between the accounting implication of real assets and

financial assets

311ACN202R/1

Study the relevant sections of chapter 4 of Fundamental aspects.

1.1 INTRODUCTION

Read through the introductory section.

An accountant has to act sometimes as an appraiser in the semi-legal capacity especially in a

case as arbitrator. In terms of the Estate Duty Act, 1955, the accountant has to give an opinion

on the fair market value of a property, a business, an interest in a business or shares in a

company or debentures.

A valuation can also be done on commission for a specific purpose, for example, where shares

are bought or sold in a company or the valuation of an interest in a company. In these instances

there may be special directions on how to do the valuation. In other circumstances special

valuation methods may be applied.

In this context it is important that the ``appraiser'' has to make sure of the following:

. the purpose of the valuation

. who is going to use this information

. the limitations (for example; presumptions or prescribed valuation methods) or if it will put a

qualification on his opinion.

The accountant, as appraiser, must put it very clear in the report what the purpose of the

valuation is and which method was used to determine the value.

1.2 DEFINITION OF VALUATION

Ensure that you know this definition.

1.3 REAL ASSETS AND FINANCIAL ASSETS

Read through this section and do the examples given. Make sure the examples are understood

since it forms the basis of the valuation process.

ASSESSMENT CRITERIA


. define valuations?

. explain the difference between real assets and financial assets?

. explain the difference between the accounting implication of real assets and

financial assets?

312ACN202R/1

STUDY UNIT

2Shareholders' equity ± ordinary shares

Learning outcome

Learners can apply the different valuation methods regarding ordinary shares.

OVERVIEW


Key concepts 313



2.2 Valuation of ordinary shares 314

2.3 Decision diagram 314

2.4 Questions and answers 314

Self-assessment 314

KEY CONCEPTS

. Valuations

. Real assets

. Financial assets

. Liquidation value

. Book value

. Going concern value

. Intrinsic value

. Goodwill

. Earnings yield

. Dividend yield

. Value (price) at present

. Expected future dividend

. Expected future earnings

. Risk adjusted interest rate

. Residual claim

313ACN202R/1

ASSESSMENT CRITERIA

Once you have studied this study unit, you should be able to:

. define residual claims

. explain the importance of risk in the valuation process

. apply the different valuation methods regarding ordinary shares

. determine which valuation method is applicable under circumstances where a given

set of data is presented


2.1 INTRODUCTION

Read through this section.

2.2 VALUATION OF ORDINARY SHARES

Ensure that you obtain an understanding of all the valuation methods discussed in this section.

It is important that the procedure when to apply a certain valuation method, is fully understood.

The formulas in this section must be memorised.

2.3 DECISION DIAGRAM

This diagram must be submitted because it diagramatically explains when which valuation

method can be applied.

2.4 QUESTIONS AND ANSWERS

Work through these questions before looking at the answers.

SELF -ASSESSMENT


. define residual claims?

. explain the importance of risk in the valuation process?

. apply the different valuation methods regarding ordinary shares?

. determine which valuation method is applicable under circumstances where a given

set of data is presented?

314ACN202R/1

STUDY UNIT

3Shareholders' equity ± preference shares

Learning outcome

Learners can apply the different valuation methods regarding preference shares

OVERVIEW


Page

Key concepts 315



3.2 Types of preference shares and valuation methods 316

3.3 Advantages and disadvantages of preference shares 316

3.4 Types of preference shares 316


Self-assessment 317

KEY CONCEPTS

. Preference shares

. Cumulative preference shares

. Redeemable preference shares

. Convertible preference shares

. Participating preference shares

. Price of preference shares

. Dividends of preference shares

. Fair dividend yield of preference shares

. Hybrid security

315ACN202R/1

ASSESSMENT CRITERIA


. define a hybrid security

. determine the differences between the valuation characteristics of ordinary shares

and preference shares

. describe the different types of preference shares as well as its different

characteristics

. calculate the value of a preference share

. describe the advantages and disadvantages of preference shares

Study the relevant section of chapter 4 of Fundamental aspects.

3.1 INTRODUCTIONRead through this section.

3.2 TYPES OF PREFERENCE SHARES AND VALUATIONMETHODS

Memorise the four different types of preference shares as well as the formula.

3.3 ADVANTAGES AND DISADVANTAGES OF PREFERENCESHARES

Study this section thoroughly.

3.4 TYPES OF PREFERENCE SHARESStudy this section with specific emphasis on examples 8 ± 11.

3.5 QUESTIONS AND ANSWERSWork through these questions before looking at the answers.

316ACN202R/1

SELF -ASSESSMENT


. define a hybrid security?

. determine the differences between the valuation characteristics of ordinary shares

and preference shares?

. describe the different types of preference shares as well as its different

characteristics?

. calculate the value of a preference share?

. describe the advantages and disadvantages of preference shares?

317ACN202R/1

STUDY UNIT

4Outside funding

Learning outcome

Learners can apply valuation procedures for ordinary shares, preference sharesand debt.

OVERVIEW


Key concepts 318



4.2 Specific types of debt 319

4.3 Valuation procedure 319

4.4 Applicable valuation variables 319


Self-assessment 319

KEY CONCEPTS

. Risk

. Interest rate

. Time factor

. Fair rate of return

ASSESSMENT CRITERIA

After having studied this study unit you should be able to:

. determine the differences between the valuation characteristics of ordinary shares,

preference shares and debt

. label debt into different categories

. list the different types of debt

. apply the valuation procedure

. define debt variables

318ACN202R/1


4.1 INTRODUCTION

Read through this section.

4.2 SPECIFIC TYPES OF DEBT

Study this section.

4.3 VALUATION PROCEDURE

Memorise the steps taken when valuing debt.

4.4 APPLICABLE VALUATION VARIABLES

When studying this section ensure that you obtain an understanding of the more important

variables such as:

. Risk

. Interest rate

. Time factor

. Fair rate of return


Do all the questions before looking at the answers.

SELF -ASSESSMENT


. determine the differences between the valuation characteristics of ordinary shares,

preference shares and debt?

. label debt into different categories?

. list the different types of debt?

. apply the valuation procedure?

. define debt variables?

319ACN202R/1

STUDY UNIT

5Financial instruments

Learning outcome

Learners can apply different valuation procedures for different types of financialinstruments.

OVERVIEWThis study unit is divided into the following:

Page

Key concepts 320



5.2 Types of financial instruments 321

5.3 Financial risk 321

5.4 Specific concepts 321

5.5 Categories of financial instruments 321

5.6 Questions with answers 321

Self-assessment 322

KEY CONCEPTS. Financial asset

. Financial liability

. Equity instrument

. Derivative instrument

. Price risk

. Credit risk

. Liquidity risk

. Cash flow-risk

. Initial recognition

. Later measuring

. Trading date accounting

. Settlement date accounting

. Transaction costs

. Fair value

. Amortisation costs

. Effective interest method

. Effective interest rate

320ACN202R/1

ASSESSMENT CRITERIA


. describe the different types financial instruments as well as their characteristics

. identify and describe the financial risk in using financial instruments

. describe the different categories of financial assets as well as their characteristics

and the financial recording

. describe the different categories of financial liabilities as well as their characteristics

and the financial recording

. determine the value of a financial instrument

Study chapter 4 of Fundamental aspects.

5.1 INTRODUCTION

Read this section.

5.2 TYPES OF FINANCIAL INSTRUMENTS

Memorise the four different types of instruments.

5.3 FINANCIAL RISK

Distinguish between the four different types of risks.

5.4 SPECIFIC CONCEPTS

Study this section and make sure that you understand every concept.

5.5 CATEGORIES OF FINANCIAL INSTRUMENTS

Study this section in depth.


Work through the questions and compare your answers with the solutions.

321ACN202R/1

SELF -ASSESSMENT


. describe the different types financial instruments as well as their characteristics?

. identify and describe the financial risk in using financial instruments?

. describe the different categories of financial assets as well as their characteristics

and the financial recording?

. describe the different categories of financial liabilities as well as their characteristics

and the financial recording?

. determine the value of a financial instrument?

322ACN202R/1

acc201 unisa module

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