ACCA P2 (INT) Corporate Reporting - Study text - 2010 (Emile Woolf)
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Chapter 8: Foreign currency
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Step 3
Workings for consolidation
1. Goodwill:
Goodwill must be calculated and included in the consolidated statement of financial
position at the closing rate.
Florins
(m)
Rate $m
Costofinvestment
240 4.2 57.1
Lessparent’sshareofnetassetsacquired
75%×264millionFlorins
(198) 4.2 (47.1)
Goodwillatclosingrate
42 4.2 10.0
We also have to deal with the exchange gain or loss on the parent’s cost of
investment.
In the goodwill calculation above, the cost of investment is translated at the closing
rate. When JK was purchased, AB recorded the cost of investment at the rate at that
date. The gain or loss on re-translation to the closing rate will be recognised in other
comprehensive income and recorded in the reserves attributable to the parent
entity.
$m
Costofinvestmentathistoricalrate:240/5.0
48.0
Costofinvestmentatclosingrate:240/4.2
57.1
Exchangegain
9.1
2. Non-controlling interest
In $m, NCI = 25% × 69.9 = 17.5
3. Consolidated reserves attributable to owners of AB
$m
AB
720.0
JK:shareofpostacquisitionprofits:75%×7.1
5.3
Exchangegain(seeabove)
9.1
734.4
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AB
Consolidatedstatementoffinancialpositionasat31MayYear7
$m
Noncurrentassets
Tangibleassets(594+69.5)
663.5
Intangibleassets:goodwill
10.0
Currentassets(768+48.5)
816.5
Totalassets
1,490.0
Equityandliabilities
EquityattributabletoownersofAB
Sharecapital
120.0
Sharepremium
100.0
Retainedearnings
734.4
954.4
Non‐controllinginterests 17.5
Totalequity
971.9
Noncurrentliabilties(60+19.5) 79.5
Currentliabilities(410+28.6)
438.6
1,490.0
3.5 Exchange differences in other comprehensive income
Using the method of creating the consolidated statement of financial position shown
in the previous example, you do not need to worry about exchange differences. By
translating every balance in the subsidiary’s statement of financial position at the
closing rate, the exchange differences are automatically included in reserves.
However, you may be asked to calculate exchange differences arising for reporting
in other comprehensive income and a separate equity reserve.
The easiest way to work out the exchange differences (excluding the gain or loss on
re-translation of goodwill) is to create the accounting equation for the foreign
subsidiary in its own currency. Once this is translated into the parent’s currency it
will not balance, and the exchange differences are the balancing figure. These are
the exchange differences arising from:
re-translating the opening net assets of the subsidiary at the closing rate, and
re-translating the subsidiary’s post-acquisition profit at the closing rate.
An example will be used to demonstrate the calculation.
Chapter 8: Foreign currency
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Example
The same example that was used above will be used here, with the exception that
the acquisition occurred one day earlier, at the end of the previous financial year.
AB owns 75% of JK which is located in a different country. The currency of this
country is the Florin (Fl). AB acquired its shares in JK on 30 April Year 6 for 240
million Florins when the retained earnings of JK were 160 million Florins. The
statement of financial position of JK as at 30 April Year 7 is shown below:
JK:Statementoffinancialpositionat30AprilYear7:
Flm
Tangiblenon‐currentassets 292
Currentassets
204
496
Sharecapital 64
Sharepremium
40
Retainedearnings
190
294
Non‐currentliabilties 82
Currentliabilities
120
496
Notes:
(1) AB uses the partial goodwill method to account for non-controlling interests,
and NCI does not include an amount for goodwill.
(2) JK did not pay any dividends during the year.
(3) The following exchange rates are relevant:
30AprilYear6
Fl5.0=$1
Averagefortheyear
Fl4.0=$1
30AprilYear7
Fl4.2=$1
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At 30 April Year 6, the consolidated financial position of the AB Group would
include the following items:
Florinsm Exchangerate $m
Costofinvestment
240
Parent’sshareofnetassetsofJK
75%×(64+40+160)m
198
Goodwill 42.0 5.0 8.4
NetassetsofJK:(64+40+160)m 264.0 5.0 52.8
Non‐controllinginterests:25%×264m 66.0 5.0 13.2
During the year to 30 April Year 7, the post-acquisition profit of JK is 30 million
Florins (= $190 million - $160 million) retained reserves.
The consolidated profit for the year is reported as $7.5 million (= $30 million at
average rate 4.0). 75% of this is attributable to the parent company and 25% to the
NCI.
Florins(m) Exchangerate $m
OpeningnetassetsofJK
264.0 5.0 52.8
Profitfortheyear 30.0 4.0 7.5
60.3
Closingnetassets 294.0 4.2 70.0
Exchangegain
9.7
This total exchange gain is 75% attributable to the parent entity ($7.3 million) and
25% to NCI ($2.4 million).
There is also an exchange gain or loss on the re-translation of goodwill (100%
attributable to the parent).
Florins(m) Exchangerate $m
Openinggoodwill
42.0 5.0 8.4
Closinggoodwill(noimpairment) 42.0 4.2 10.0
Exchangegain
1.6
The change in the consolidated statement of financial position between 30 April
Year 6 and 30 April Year 7 arising from the consolidation of JK’s financial
statements can be summarised as follows.
Chapter 8: Foreign currency
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Florins(m) Exchangerate $m
Goodwill
42.0 4.2 10.0
ClosingnetassetsofJK 294.0 4.2 70.0
80.0
EquityattributabletoownersofAB
ShareofJKprofit(75%) 22.5 4.0 5.6
Exchangegainonrevaluationof
goodwill
1.6
Otherexchangegains(75%×9.7)
7.3
Increaseinreservesattributabletoparent
14.5
Non‐controllinginterest(25%×70)
17.5
32.0
The difference between the net assets side and the equity side is $48 million, the cost
of the investment of AB in JK.
The total exchange gain attributable to the owners of the parent entity is $8.9 million
(1.6 + 7.3). This should be recognised in other comprehensive income for the year
and credited to a separate reserve in equity.
The closing balance of NCI is $17.5 million, which is the opening balance for NCI (=
$13.2 million) plus the NCI share of the recognised profit of JK for the year ($1.9
million, = 25% × $7.5 million) plus a 25% share of the exchange gains recognised in
other comprehensive income, excluding the gain on goodwill (= 25% × $9.7 million)
= $2.4 million).
$m
Openingbalance,NCI
13.2
Shareofrecognisedprofitfortheyear 1.9
Shareofothercomprehensiveincome
2.4
Closingbalance,NCI
17.5
3.6 Disposal of a foreign subsidiary
Most of the accounting rules for the disposal of a foreign subsidiary, or for the
partial disposal of a foreign subsidiary, are set out in IAS 27 (revised). Disposals are
explained in another chapter.
However IAS 27 does not deal with the accounting treatment of the balance on the
separate equity reserve account when a foreign subsidiary is disposed of. This
matter is dealt with by IAS 21.
When the entire investment in a foreign subsidiary is disposed of, the
cumulative balance in the separate equity reserve (which represents amounts
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previously recognised in other comprehensive income) should now be
reclassified from equity to profit and loss.
If there was a non-controlling interest in the subsidiary, the NCI is derecognised
in the consolidated statement of financial position. Amounts previously
recognised in other comprehensive income and attributed to NCI must not be
reclassified and recognised in profit or loss of the reporting entity.
When a proportion of an investment in a foreign subsidiary is disposed of, a
proportionate share of the amounts previously recognised in other
comprehensive income (the cumulative balance in the separate equity reserve)
should now be reclassified from equity to profit or loss.
When income previously recognised as other comprehensive income is reclassified
as a gain or loss to profit or loss as a re-classification adjustment, there must be an
offsetting loss or gain in other comprehensive income, to avoid double-counting of
the gain (or loss).
Example
A company held 100% of the equity of a subsidiary S, but sold the entire investment
on 1 June when the carrying value of the net assets S and the purchased goodwill
were $30 million. The consideration received from selling the shares was $37
million.
The company had previously recognised exchange gains of $2 million in other
comprehensive income on its investment in S.
For the financial period when the disposal occurs, the company should recognise $9
million in profit or loss:
$m
Considerationreceivedfromsaleofshares
37.0
CarryingvalueofnetassetsofS 30.0
Gain
7.0
Exchangegainpreviouslyrecognisedinothercomprehensiveincome
(reclassificationadjustment)
2.0
Totalgainrecognisedinprofitorlos s
9.0
In other comprehensive income, negative income of $2 million should be
recognised, to avoid double counting of the income previously recognised as other
comprehensive income but now reclassified in profit or loss.
Chapter 8: Foreign currency
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IAS 29: Hyperinflation
The problem
The treatment
IFRIC Interpretation 7: Applying the Restatement Approach under IAS 29,
Financial Reporting in Hyperinflationary Economies
The future
4 IAS 29: Hyperinflation
4.1 The problem
When a country suffers from hyperinflation (a very high rate inflation), financial
reporting in the local currency is not useful when normal accounting rules are
applied. This is because the reported results for the year and financial position at the
year-end will be misleading, due to significant changes in the real values of assets
and liabilities over time.
IAS 29 deals with the translation of foreign currency items where the functional
currency of an entity is the currency of a hyperinflationary economy. It requires a
different approach to preparing financial statements when there is hyperinflation
Deciding whether or not hyperinflation exists is a matter of judgement, because
IAS29 does not specify a rate of inflation above which hyperinflation exists and
below which it does not exist.
Instead IAS29 suggests that hyperinflation normally occurs when any of the
following conditions apply:
The general population prefers to keep its wealth in non-current assets or in a
stable currency.
Goods and services are priced in terms of a stable currency rather than in the
local currency.
Sales and purchases on credit take place at prices that compensate for the
expected inflationary effect.
Interest rates, wages and prices are linked to a price index.
The cumulative inflation rate over three year is approaching, or exceeds, 100%.
4.2 The treatment
In principle there are two possible treatments that could be used to eliminate the
hyperinflationary effects.
Possible method 1. Maintain the accounts in a stable currency as the functional
currency
Possible method 2. Re-state the financial statements using a price index
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IAS 29 does not permit the use of the first method, as companies may select a stable
currency of their choice and so there is potential for the financial statements to be
‘manipulated’. IAS 21 is very clear that the functional currency is not one of choice,
but the currency that the entity is most economically dependent on. Therefore it
cannot be changed to overcome the problem of financial reporting when there is
hyperinflation.
Therefore, the required treatment is method 2. When an entity is a foreign
subsidiary in a country with hyperinflation, it is necessary to adjust the financial
statements of the foreign entity to reflect current price levels at the end of the
financial period end (as at the end of the reporting period). This adjustment takes
place before translating the financial statements into the presentation currency of
the group.
4.3 IFRIC Interpretation 7: Applying the Restatement Approach under IAS
29, Financial Reporting in Hyperinflationary Economies
IFRIC 7 contains guidance on an entity preparing financial statements under IAS 29
for the first time. When the entity operates in an economy where the functional
currency becomes hyperinflationary, IAS 29 must be applied as if the economy had
always been hyperinflationary. The restatement of non-monetary items measured at
historical cost is shown in the opening statement of financial position of the earliest
period presented in the financial statements. The restatement occurs from the date
the assets were acquired and the liabilities incurred.
Deferred tax is restated in the opening statement of financial position and is
measured after restating the carrying amounts of non-current assets.
4.4 The future
Recognising hyperinflation is extremely difficult in practice, and IAS 29 is only able
to provide limited guidance. If the entity’s financial statements are to be re-stated
using a price index, the chosen index might be manipulated by the government and
so using the index might give unreliable results.
IAS 29 has therefore been referred for a review and update to the standard-setting
body in Argentina, a country that has had experience in the past with
hyperinflation.
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Paper P2 (INT)
Corporate Reporting
CHAPTER
9
Statements of cash flows
Contents
1 IAS 7 and statements of cash flows: revision
2 Consolidated statements of cash flows
3 Non-controlling interests and associates in the
statement of cash flows
4 Acquisitions and disposals of subsidiaries in the
statement of cash flows
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IAS 7 and statements of cash flows: revision
The purpose of statements of cash flows
The basic format of a statement of cash flows
Cash flows from operating activities
Cash flows from operating activities: the direct method
Cash flows from operating activities: the indirect method
Cash flows from investing activities
Cash flows from financing activities
Cash and cash equivalents
1 IAS 7 and statements of cash flows: revision
1.1 The purpose of statements of cash flows
IAS 7 Statements of cash flows requires an entity to prepare a statement of cash flows
and to present it as a key financial statement.
Information relating to cash flows helps users of financial statements to assess:
the ability of the entity to generate cash (and cash equivalents), and
the needs of the entity for cash.
A statement of cash flows allows users of the financial statements to evaluate (1) the
ability of the entity to generate cash flows and (2) the timing and certainty of those
cash flows. This may influence the economic decisions taken by users.
A statement of cash flows is therefore required because it provides useful
information that other financial statements do not provide. The purpose of the
primary financial statements can be compared as follows:
Financial statement Information provided
Statement of financial position Financial position at the reporting date
Statement of comprehensive
income
Financial performance in the period
Statement of changes in equity Changes in components of equity in the
period
Statement of cash flows Liquidity:
Generation of cash and
use of cash (and cash
equivalents)
Viability:
Ability to survive
Adaptability:
Ability to respond to
change