1. Corporate Reporting

2. 2 Section A: Discuss the professional and ethical duties of the accountant Section B: Evaluate the financial reporting framework Section C: Advise on and report the financial performance of entities Section D: Prepare the financial statements of groups of entities in accordance with relevant accounting standards Section E: Explain reporting issues relating to specialised entities Section F: Discuss the implications of changes in accounting regulation on financial reporting Section G: Appraise the financial performance and position of entities Section H: Evaluate current developments

3. 3 Section D: Financial Statements of Groups of Entities D1. Group accounting including statement of cash flows D2. Continuing and discontinued interests D3. Changes in group structures D4. Foreign transactions and entities

4. 4  Discuss the reasons behind group reorganisation.  Evaluate and assess the principal terms of a proposed group reorganisation. Study Guide D3. Changes in group structures Section D: Financial Statements of Groups of Entities

5. 5 Discuss the Reasons behind Group Reorganisation. Group reorganisation: restructuring the relationships between companies in a group Reasons for group reorganisation Smaller listed company Unlisted company Reverse acquisitions: Stock exchange listing the group is split into more parts, each part is still owned by the same shareholders; this is done to boost shareholders’ wealth Demergers: increase shareholder value / wealth

6. 6 Streamline operating divisions Divisionalisation: cost cutting Subsidiary 2 Subsidiary 1 Subsidiary 3 assets of subsidiaries are transferred to one single company to save costs and simplify the group structure. Discuss the Reasons behind Group Reorganisation.

7. 7 Types of group restructuring Organic restructuringInorganic restructuring Capital restructuring:  issue shares to the public  issue of debentures & bonds  buy back of shares  rights or bonus issue Business restructuring:  Spin off of an undertaking or brand,  rationalisation of work force, acquisition of an undertaking or trade,  diversification into new markets Corporate identity is retained Corporate identity is changed. Includes:  amalgamations,  mergers,  de-mergers,  sales of undertakings to another company,  acquisition of a company, rehabilitation of sick undertakings Types of Group Restructuring

8. 8 Benefits of Reorganisation & Restructuring Growth Additional capital & resources  new forms of capital  new types of organisation  new lines of business By way of buy back of shares –free reserves are shared by less number of shares By acquiring units in core areas & disposing of those in non-core areas Increasing value for investors Core competence is achieved High cost capital could be replaced with low cost capital by converting some loans into equity and selling unprofitable businesses Revival of units i.e. reducing debt as a percentage of the equity Capital gearing ratio is reduced Achieved through reverse acquisitions, without incurring the expenses of an IPO. Stock exchange listing Helps in better tax planning

9. 9 Methods of Reorganisation / Restructuring – New company 1. Creation of a new parent company Original shareholders in S1 & S2 will exchange their shares for shares in H  Original shareholders in S1 & S2 may contribute cash to acquire shares in H, in addition to exchange of shares  H can raise funds through external sources : to buy back shares from shareholders of both of its subsidiaries who do not wish to continue as shareholders of the newly created group  H will prepare consolidated FS of the group.  Consolidation will be governed by IFRS 3R Business combinations.  Acquisition method to be used for consolidating the financial statements of the group companies.

10. 10 Creation of new parent company By the introduction of cash Without the introduction of cash Provisions of IFRS 3R will not apply. Hence, restructuring could be accounted for using the pooling of interest or merger method Provisions of IFRS 3R will apply & the acquisition method should be used for consolidation & preparation of FS of the group companies Under IFRS 3R in all business combinations an acquirer has to be identified and the acquisition method must be used for consolidation. Common control combinations are not identified by IFRS 3R and are the basis of subsequent changes to IFRS 3R. Methods of Reorganisation / Restructuring – New company

11. 11 2. Changes of ownership within the group  Ownership in wholly owned subsidiaries may be transferred from one company to another within the group  In these transactions, there would not be any outflow / inflow of assets or liabilities into or out of the group.  Only shareholdings & investments would change from one company to another within the group a) When a subsidiary is moved down in the group Before reconstruction After reconstruction HH S1S2 S1 S2 Accounting entries to record this restructuring are: In H’s books Dr Investment in S1 shares/ cash X CrInvestment in S2 Co X In S1’s books DrInvestment in S2 X Cr Share capital / cash / asset X Methods of Reorganisation / Restructuring – Changes in ownership

12. 12 b) When a subsidiary is moved up in a group Before reconstruction After reconstruction H H SSS S 100%  H cannot normally issue its shares to S  it is illegal for a subsidiary to own shares of its parent  H would either pay S in cash for its investment in SS, or S would transfer its investment in SS to H as a “dividend in specie”. On restructuring, H would make the following accounting entries: DrInvestment in SS X CrReservesX Cr CashX At the same time, S would make the following accounting entry: DrReservesX CrInvestment in SS CoX Here, H wants to sell S but wishes to retain SS Methods of Reorganisation / Restructuring – Changes in ownership

13. 13 c) A subsidiary is moving along This type of restructuring arrangement is carried out as follows:  the first step in the process is to initiate a sale of S1 so that S1 can leave the group.  S2 should pay purchase consideration more than or equal to the fair value of S1’s investment in SS.  hence, shares are not used as consideration in this kind of a transaction. holds Before reconstruction H S1S2 SS holds After reconstruction H S1 S2 Methods of Reorganisation / Restructuring – Changes in ownership

14. 14 To account for this arrangement, the following accounting entries are recorded: In S1’s accounts: DrCash / AssetX CrInvestment in SS Co X In S2’s accounts: DrInvestment in SS CoX CrCash / Assets X 3. Demerger- the exact opposite of acquisition  A group disposes of its subsidiaries or divisions in order to split into smaller groups so as to augment shareholder value.  A company is spun off from the group  The difference is that the split off company / companies has / have no legal relationship with the other entities within the group e.g. BT in the UK and Reliance Industries in India  A group can discard those companies that do not form part of its long-term business plan and concentrate on its core businesses.  Each company within a specific industry will be able to concentrate & implement its own strategies, therefore increasing the value of its shares.  This will benefit current & potential investors as they can now analyse their investment portfolios by grouping them into specific industrial sectors. Methods of Reorganisation / Restructuring - Demerger

15. 15 Demerger by transferring business a) H (holding or parent company) transfers shares in S to its shareholders. This is treated as a dividend in specie. Before demerger H S shareholders After demerger S H shareholders Demerger through transfer of trade investment b) H transfers a trade investment to another company S, which in return issues shares to the shareholders of H. Before demerger H Trade investment shareholders After demerger S H shareholders Trade investment Methods of Reorganisation / Restructuring - Demerger

16. 16 Shareholders H S S1 After demerger Shareholders Before demerger H S c) H transfers shares in S to another company S1, which in return issues shares to the shareholders of H. In a demerger, the shareholders of the group are given an equivalent stake in the spun off company. Methods of Reorganisation / Restructuring - Demerger

17. 17 Palace owns Hut, House & Igloo Co House acquires all net assets of Hut & Igloo Co & cash is paid in exchange Assets transferred to 4. Divisionalisation Methods of Reorganisation / Restructuring - Divisionalisation

18. 18 5. Reverse acquisitions  A parent company acquires shares in another company and then issues shares to the acquired company’s shareholders  This results in the acquired company’s shareholders having control over the combined entity.  The legal subsidiary is the party that has control, and under IFRS 3R, is identified as the acquirer. This is called a reverse acquisition.  Palace has not disposed of its shares in Hut and Igloo.  The assets of the ultimate group are unchanged, there will be no effect on the group financial statements.  Entities Hut and Igloo are merely “shell” companies. There will be only share capital and cash received from House in their SOFPs.  However, this will result in causing impairment to the value of Palace’s investment in Hut and Igloo.  If any goodwill arises on acquisition of Hut and Igloo, it may also be impaired. Methods of Reorganisation / Restructuring – Reverse acquisition

19. 19 The management of Red Group, which consists of Red, White, Black, and Blue, all limited companies, has decided to restructure the group at 30 November 20X7. For this purpose, it has drafted the following plan: i.Red would transfer its investment in Blue to White for a consideration of $140 million in cash plus 308 million in shares of White. ii.Goodwill arising on restructuring was impairment tested on 30 November 2007.The impairment loss, when allocated, only affected goodwill. Goodwill was amortised over five years. The amortisation of goodwill is to be discontinued from 1 December 2007. iii.The subsidiaries were all 100% owned by Red on the date of the restructuring. The acquisition details are set out below: $million Fair value of net assets at acquisition Date of acquisition Carrying value of goodwill at 30 November 2007 after impairment test Retained earnings at acquisition White3,36001/12/2005841,260 Black1,96001/12/200556700 Blue1,17601/12/200642140 Self Examination Question 3 (Refer Page 496) Continued…

20. 20 iv.Black is to be demerged from the group and a new public limited company, Green, is to be formed by issuing shares (840 million ordinary shares of $1) to the shareholders of Red in exchange for Red’s investment in Black. v.The increase in the fair value of the net assets at acquisition reflects the fair value of non-depreciable land. vi.White, Black & Blue have not issued any shares since acquisition other than the share issues proposed in the restructuring plan. vii.Any transfer of investments within the group should be at carrying value and shares to be issued on restructuring cannot be issued at a value that is less than their nominal value. viii.The statements of financial position of the related companies, as at 30 November 2007, are as follows $million RedWhiteBlackBlue Property, plant and equipment4,7602,8001,400840 Investment in White at cost3,500 Investment in Black at cost2,240 Investment in Blue at cost1,260 Net current assets3,9202,240980280 15,6805,0402,3801,120 Equity Share capital of $12,8001,400840560 Share premium account5,460560420350 Retained earnings7,4203,0801,120210 15,6805,0402,3801,120 Continued…

21. 21 ix.The current values of the shares of Red, White, Black and Blue are $5.5, $2.8, $2.65, $3 respectively. Required: a)Explain, with workings, how the individual accounts of Red, White, Black, and Blue will appear after restructuring, in addition to preparing individual as well as the group’s consolidated statement of financial position post restructuring at 30 November 2007. b)You are informed that group retained earnings before restructuring are $7,420 million. Prepare an analysis of the group’s retained earnings after restructuring and explain their composition. Continued… For Answer Refer Page 498

22. 22 RECAP  Discuss the reasons behind group reorganisation?  Evaluate and assess the principal terms of a proposed group reorganisation?

23. [training@getthroughguides.com]