IAS 28 investments in associates – intercompany profits

Company A sells inventory to its 30% owned associate, B. The inventory had cost A $200,000 and was sold for $300,000. B also has sold inventory to A. The cost of this inventory to B was $100,000, and it was sold for $120,000.

Required

How would the intercompany profit on these transactions be dealt with in the financial statements if none of the inventory had been sold at year-end?

Solution

Company A to Company B

	$000
The intergroup profit is $(300 – 200)	100
Profit reported would be 100 × 70/100 =	70

The remaining profit would be deferred until the sale of the inventory.

Company B to Company A

The profit made by B would be $(120 – 100) = 20

An amount of 20 × 30/100 would be eliminated from the carrying value of the investment, that is, $6,000.

The alternative is to eliminate the whole of the profit from B’s profit for the period and then calculate the profit attributable to the associate.

IAS 28 investments in associates – significant influence

Company X owns 22% of Company Y and is entitled to appoint two directors to the board, which consists of eight members. The remaining 78% of the voting rights are held by two other companies, each of which is entitled to appoint three directors. The board makes decisions on the basis of a simple majority. Because board meetings are often held at very short notice, Company X does not always have representation on the board. Often the suggestions of the representative of Company X are ignored, and the decisions of the board seem to take little notice of any representations made by the director from Company X.

Required

What is the relationship between Company X and Company Y?

Solution

Company X is unable to exercise significant influence as its directors seem to be ignored at board meetings. Therefore, the equity method should not be used.

If the investor ceases to have significant influence over an associate, then the equity method should not be used and the investment should be accounted for using IAS 39.

IAS 28 investments in associates – impairment losses

A acquired 30% of the issued capital of B for $1 million on December 31, 20X5. The accumulated profits at that date were $2 million. A appointed three directors to the board of B, and A intends to hold the investment for a significant period of time. The companies prepare their financial statements to December 31 each year. The abbreviated balance sheet [financial position] of B on December 31, 20X7 is

Sundry net assets	$6 million
Issued share capital of $1	$1 million
Share premium	$2 million
Retained earnings	$3 million

B had made no new issues of shares since the acquisition of the investment by A. The recoverable amount of net assets of B is deemed to be $7 million. The fair value of the net assets at the date of acquisition was $5 million.

Required

What amount should be shown in A’s consolidated balance sheet [consolidated statement of financial position] at December 31, 20X7, for the investment in B?

Solution

Investment in associate (30% × $6 million) = $1.8 million

Alternative Calculation:

	$ million
Cost	1.0
Post-acquisition profits 30% (3 – 2)	0.3
Negative goodwill (30% of $5 million) – $1 million	0.5
	1.8

The negative goodwill [gain from a bargain purchase] will be credited to income.

An impairment test would prove that the carrying amount of the investment is not impaired.

	$million
Recoverable amount $7 million × 30%	2.1
Carrying value of investment	1.8

(Goodwill should not be impairment tested separately but included in the carrying value of the investment.)

Accounting policies

Accounting policies are the specific principles, bases, conventions, rules and practices applied by an entity in preparing and presenting financial statements.

Source: IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors

Accounting profit

Accounting profit is profit or loss for a period before deducting tax expense.

Source: IAS 12 Income Taxes.

Accrual basis of accounting

The effects of transactions and other events are recognised when they occur (and not as cash or its equivalent is received or paid) and they are recorded in the accounting records and reported in the financial statements of the periods to which they relate.

Source: Framework for the Preparation and Presentation of Financial Statements

Accumulating compensated absences

Accumulating compensated absences  are compensated absences that are carried forward and can be used in future periods if the current period’s entitlement is not used in full.

Source: IAS 19 Employee Benefits.

Acquiree

Acquiree is the business or businesses that the acquirer obtains control of in a business combination.

Source: IFRS 3 Business Combinations.