CPD Lecture 3 1 Content of Lecture 3 Approach to a general theory - - PDF document

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CPD Lecture 3 1 Content of Lecture 3 Approach to a general theory - - PDF document

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3/30/2020 CPD Lecture 3 1 Content of Lecture 3 Approach to a general theory question Approach to specific theory question Financial instruments Share-based payments Fair value measurement Financial instruments impairments

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3/30/2020 1

CPD

Lecture 3

1

Content of Lecture 3

  • Approach to a general theory question
  • Approach to specific theory question
  • Financial instruments
  • Share-based payments
  • Fair value measurement
  • Financial instruments impairments
  • Foreign exchange transactions
  • Fair value transactions
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Types of theory questions

General

Conceptual Framework

Specific

Specific Standard

Conceptual Framework

  • 1. Identify the issue or issues
  • 2. Consider the journal entry – debit (asset or expense)
  • r credit (liability, income or equity)
  • 3. Use the definitions provided in the framework to justify

(no changes to the previous definitions) – SoFP bias 1. Application of the scenario to each point of theory

  • 4. Conclude based on your argument!
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5

You need to have a PLAN!

Required: Components:

I

  • Asset
  • Provision
  • Liability

C

 Ex:

  • Finance Lease
  • Operating

Lease

R

  • Probable?
  • Measurable?
  • R&R Transfer

M

 Initial / Subsequent

  • Fair value
  • Cost

P&D

HAVE A FRAMEWORK/ CHECKLIST, FOR EXAMPLE: UNDERSTAND THE SCENARIO

Financial instruments – IAS 32/IFRS9

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Issues dealt with:

  • Financial instruments definition
  • Classification of debt versus equity
  • Classification of financial assets

7

IAS 32 – Identification

  • Financial instrument general principle (NB):
  • Contractual right/obligation to

receive/pay CASH

  • 32.15:

Classify instrument ,

  • r

its component parts, on initial recognition as a financial liability, financial asset, or equity instrument, in accordance with the:

  • Substance of the contract
  • The definitions of FA, FL and E

8

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IAS 32 – Identification

  • Scope exclusions
  • Items specifically dealt with by another standard
  • E.g. a lease?
  • Commodity contracts (contracts to buy/sell a

non-financial item) – 32.08 and 32.09

  • What is our intention?
  • Speculate or Normal usage, purchase and

sales requirements?

  • Net or Gross settlement?

9

IAS 32 - Identification

  • Financial asset:
  • Cash
  • Contractual right to receive cash
  • Equity instrument of another
  • Contract to exchange FA under conditions that are

potentially favourable

  • Contract settled in our own equity (i.e. physically)

that is

  • Non-derivative – by receiving a variable amount
  • f shares
  • Derivative – other than by exchanging a fixed

amount of shares for a fixed amount of cash

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IAS 32 - Identification

  • Financial assets – Are the following financial assets or

not?

  • Debtor?
  • Prepaid expenses?
  • Savings account?
  • 3 month FEC to buy US dollars at R7,00 (spot rate R7.50)?
  • Shares in SABMiller Plc.?
  • Holder of a put/call option over Goldfields Ltd shares?
  • Investment in debentures of Anglo American Ltd?
  • In S’s books: R100,000 loan granted by a subsidiary (S) to the

Holding company (H) that will be re-payed by H settling the

  • utstanding amount, by paying S back with S’s own shares

(number of shares delivered R100,000/share price on repayment date)?

  • Would your answer change if H per the contract will repay the

loan by delivering 10,000 shares?

  • What is the substance of the transaction?

11

IAS 32 - Identification

  • Financial Liability:
  • Contractual obligation to pay cash
  • Contract to exchange FA under conditions that are

potentially unfavourable

  • Contract settled in our own equity that is
  • Non-derivative – by delivering a variable amount of

shares

  • Derivative – other than by delivering a fixed amount
  • f shares for a fixed amount of cash

What is the intention behind the “fixed for fixed” principle?

12

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IAS 32 - Identification

  • Financial liabilities – Are the following financial

liabilities or not?

  • Loan from bank?
  • Current tax liability?
  • 3 month FEC to buy US dollars at R7,00 (spot rate

R6.50)?

  • Holder of a put/call option?
  • Writer of a put/call option?
  • 1,000 0% issued convertible debentures of R100

each (R100,000), settled by compulsory converting

  • f the debentures into a variable number of ordinary

shares i.e. R100,000/share price on conversion date

  • What if it was convertible at 2 shares for each

debenture?

  • Written call option on our own shares at a strike

price of R50 per share. Will be settled by physically delivery of shares to the option holder.

  • What if settled net in cash?

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Approach to IAS 32 – Debt/equity

  • Identify the instrument and then if

there is multiple components (list)

  • Classify all components
  • Definitions and specific rules
  • Compound instrument
  • Initial measurement
  • Conclude
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IAS 32 – Classification FL vs. Equity

  • 3 possible components of any issued instrument

Interest or Dividends Capital redemption

Value of any

  • ption (or

derivative) for conversion/settle ment

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REVISION OF KEY PRINCIPLES IN IAS 32

  • IAS 32.15 – When classifying financial

instruments, the substance of the transaction needs to be looked at together with the definitions.

  • IAS 32.19 – Unconditional right to avoid

delivering cash – “cash avoidance test”

  • IAS 32.28 – For a compound financial

instruments – identify the liability and equity component.

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Basic options: Financial assets

Options for Business Model Held to collect cash flows Dual purpose Held for trading Exception: Equity option through OCI FTP&L FTOCI Amortised cost

Financial Liabilities Classification

  • Always at amortised cost unless

held for trading or specifically designated at FV through P/L.

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Impairment of financial assets

IFRS 9 Expected Credit Loss Model Simplified Approach General Approach

3 Stages

1 Stage

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3/30/2020 11 IFRS 9: Impairment of financial assets

Example

  • Purple Ltd (hereafter “Purple) has an investment in 100 000, 10%

MNT Ltd debentures. The debentures were acquired on 1 July 2014 at a cost (fair value) of R5 per debenture. Transaction costs amounting to R10 000 were incurred. The debentures are redeemable on 30 June 2019 at a premium of 5%. The 12-month expected credit losses was R45 000.

  • The fair value of MNT Ltd debentures increased to R5,20 on 30

June 2015. On that date, the debentures’ credit risk increased significantly and the expected lifetime credit losses was estimated to be R52 000.

  • At 30 June 2016, the fair value increased to R5,80. The expected

lifetime credit losses was estimated to be R60 000.

  • On 1 July 2016, the debentures were deemed to be credit
  • impaired. The expected lifetime credit losses was estimated to be

R70 000. On 30 June 2017, the fair value had decreased to R4,80. The expected lifetime credit losses remained unchanged.

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  • N=5
  • PV= 510 000
  • FV=525 000
  • PMT= 50000
  • CPT I/Y= 10.283%

Example Calculation

01.07.2014 30.06.2015 30.06.2016 30.06.2017 Financial asset Balance 510 000 512 443 515 137 518 109 Effective interest 52 443 52 694 52 971 Fair value of financial asset 510 000 520 000 580 000 480 000 Loss Allowance 45 000 52 000 60 000 70 000

Example Calculation

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a) Assuming amortised cost classification

1 July 2014 Investment in MNT debentures(SFP) Bank (SFP) Initial recognition of investment 510 000 510 000 Expected credit losses (P/L) Loss allowance: Investment in MNT (SFP) Recognition of 12 month losses at origination 45 000 45 000 30 June 2015 Investment in MNT debentures(SFP) Interest income(P&L) Interest income for 2015 Figure from amortisation table (period 1) in calculator or (510 000*10.283%) 52 443 52 443 Bank(SFP) Investment in MNT debentures(SFP) Payment received for 2015 (500 000*10%) 50 000 50 000 Expected credit losses (P/L) Loss allowance: Investment in MNT (SFP) Recognition of a change in the expected credit losses 7 000 7 000

30 June 2016 Investment in MNT debentures(SFP) Interest income(P&L) Interest income for 2016 (510 000+52 443-50 000)*10.283% 52 695 52 695 Bank(SFP) Investment in MNT debentures(SFP) Payment received for 2016 (500 000*10%) 50 000 50 000 Expected credit losses (P/L) Loss allowance: Investment in MNT (SFP) Recognition of a change in the expected credit losses 8 000 8 000

a) Assuming amortised cost classification

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3/30/2020 14 a) Assuming amortised cost classification

1 July 2016 Expected credit losses (P/L) Loss allowance: Investment in MNT(SFP) (Recognition of a change in the expected credit losses) 10 000 10 000 30 June 2017 Investment in MNT debentures(SFP) (gross) Loss allowance (SFP) Interest income(P&L) (nett) Interest income for 2017 ** = (512 443+52 695-50 000-70 000)*10.283% 52 971 7 197 45 774** Bank(SFP) Investment in MNT debentures(SFP) Payment received for 2017 (500 000*10%) 50 000 50 000

b) Assuming debt instrument at FV through OCI classification

1 July 2014 Investment in MNT debentures(SFP) Bank (SFP) Initial recognition of investment 510 000 510 000 Expected credit losses (P/L) Expected credit losses reserve (OCI) Recognition of 12 month expected credit losses at origination 45 000 45 000 30 June 2015 Investment in MNT debentures(SFP) Interest income(P&L) Interest income for 2015 Figure from amortisation table (period 1) in calculator or (510 000*10.283%) 52 443 52 443 Bank(SFP) Investment in MNT debentures(SFP) Payment received for 2015 (500 000*10%) 50 000 50 000 Investment in MNT debentures(SFP) Fair value adjustment(OCI) Fair value adjustment of debenture at the end of the year (510 000+52 443-50 000) – (5.20*100 000) 7 557 7 577 Expected credit losses (P/L) Expected credit losses reserve (OCI) Recognition of a change in the expected credit losses 7 000 7 000

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3/30/2020 15 b) Assuming debt instrument at FV through OCI classification

30 June 2016 Investment in MNT debentures(SFP) Interest income(P&L) Interest income for 2016 (510 000+52 443-50 000*10.283%)

52 695 52 695

Bank(SFP) Investment in MNT debentures(SFP) Payment received for 2016 (500 000*10%)

50 000 50 000

Investment in MNT debentures(SFP) Fair value adjustment(OCI) Fair value adjustment of debenture at the end of the year [(520 000+52 695-50 000) – (5.80*100 000)]

57 305 57 305

Expected credit losses (P/L) Expected credit losses reserve (OCI) Recognition of a change in the expected credit losses

8 000 8 000

b) Assuming debt instrument at FV through OCI classification

1 July 2016 Expected credit losses (P/L) Expected credit losses reserve (OCI) Recognition of a change in the expected credit losses 10 000 10 000 30 June 2017 Investment in MNT debentures(SFP) Interest income(P&L) Interest income for 2015 (512 443+52 695-50 000-70 000)*10.283% 45 774 45 774 Bank(SFP) Investment in MNT debentures(SFP) Payment received for 2017 (500 000*10%) 50 000 50 000 Fair value adjustment(OCI) Investment in MNT debentures(SFP) Fair value adjustment of debenture at the end of the year [(580 000+45 774-50 000) – (4.80*100 000)] 95 774 95 774

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SHARE-BASED PAYMENTS – IFRS 2

Identification of share based payment transactions

  • Is it a SBP? DEFINITION
  • Definitions of equity and cash settled
  • Application of information in scenario
  • Conclude

Equity settled: The entity will deliver its own equity instruments and has NO obligation to deliver cash and/assets to settle the SBP Cash settled: The entity has an obligation to deliver cash and/assets linked to equity to settle the SBP - as soon as the entity can AVOID paying cash it is NOT cash settled

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Measurement –

Difference between cash SBP and equity SBP

  • Cash SBP: Assumptions relating to

market conditions included in re- measurement of the liability every year

  • Equity SBP: Assumptions relating to

market conditions included in grant date FV, but never re-measured

  • Non-market conditions are re-measured

at every year end

INTERCOMPANY TRANSACTIONS

  • Where are you?

(airport)

  • Where should you be?

(program GPS)

  • Route calculated by GPS
  • Done in company accounts
  • Should be done at group

level

  • Pro-forma journal entry
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Group and Treasury Share Transactions

  • If the entity has to buy their own instruments or the

shareholders granted the instruments and provided the instruments – Always equity-settled

  • Share-based payment involving shares of the parent:
  • Parent issues own shares to employees of sub - Equity-settled in

sub Equity-settled in group

  • Sub issues parent shares to own employees -

Cash-settled in sub Equity-settled in group

  • Refer to par 43A-D when an IFRS 2 question is

combined with groups – this will help

Group Shares Parent Subsidiary

Issues the shares to the employees Subsidiary receives the services rendered

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Group Shares Parent Subsidiary

Issues the parents shares to the employees Subsidiary receives the services rendered

Foreign exchange

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Foreign exchange transactions

Basic principles of IAS 21

39

Translations Monetary items Non-monetary items All ex-diffs to P/L Not revalued Revalued No retranslation @ Closing spot rate (Truck and trailer principle) Net investment in foreign entity Ex-diffs to OCI IAS 21.16 IFRIC 22 Prepayments?

IFRS 13 FV Measurement

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The issues you need to be aware of:

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  • Definition of fair value
  • “Exit price”
  • “Market participant based”
  • FV ≠ Value in use or NRV
  • FV adjusts for specific characteristics of asset/liability being

measured (age, location, condition, contractual restrictions, risk assumptions)

  • FV is obtained from principal market (or most advantageous market)
  • Highest and best use assumption for non-fin assets
  • Adjust FV for transport costs, but not for transaction costs
  • Levels in FV hierarchy
  • Valuation techniques (Cost based, Market Based, Income approach)

Thank you!

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