DipIFR-Session27 d08 Interest in JVs

7/27/2019 DipIFR-Session27 d08 Interest in JVs

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SESSION 27 IAS 31 INTERESTS IN JOINT VENTURES

Accountancy Tuition Centre (International Holdings) Ltd 2008 2701

Overview

Objectives

To define joint ventures.

To describe the accounting treatment for joint ventures.

IAS 31

JOINTVENTURES

JOINTLYCONTROLLED

ASSETS

JOINTLYCONTROLLEDOPERATIONS

JOINTLYCONTROLLED

ENTITIES

Description

Presentation and

accounting

Description

Presentation and accounting

Transactions between venturer

and a joint venture

Exemptions Separate financial statements

Investors

Ceasing to be a venturer

Definitions

Forms of joint venture

Characteristics

DISCLOSURE

Contingencies

Interests

Description

Presentation and accounting


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1 IAS 31

1.1 Scope

IAS 31 should be applied in accounting for interests in joint ventures and the

reporting of joint venture assets, liabilities, income and expenses in thefinancial statements of venturers and investors, regardless of the structures orforms under which the joint venture activities take place.

However, it does not apply to venturers interests in jointly controlled entitiesheld by:

venture capital organisations; or mutual funds, unit trusts and similar entities,

accounted for in accordance with IAS 39 Financial Instruments: Recognitionand Measurement.

Commentary

Such investments are measured at fair value in accordance with IAS 39, with

changes in fair value recognised in profit or loss in the period of the change.

2 Joint ventures

2.1 Definitions

A joint venture is a contractual arrangement whereby two or more partiesundertake an economic activity, which is subject to joint control.

Controlis the power to govern the financial and operating policies of aneconomic activity so as to obtain benefits from it.

Joint controlis the contractually agreed sharing of control over an economicactivity.

Commentary

It exists only when the strategic financial and operating decisions relating to

the activity require the unanimous consent of the joint venturers.

Significant influence is the power to participate in the financial and operatingpolicy decisions of an economic activity but is not control or joint controlover those policies.

A ventureris a party to a joint venture and has joint control over that jointventure.

An investor in a joint venture is a party to a joint venture and does not havejoint control over that joint venture.


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Proportionate consolidation is a method of accounting and reportingwhereby a venturers share of each of the assets, liabilities, income andexpenses of a jointly controlled entity is:

(1) combined on a line by line basis with similar items in the venturersfinancial statements; or

(2) reported as separate line items in the venturers financial statements.

The equity methodis a method of accounting and reporting whereby aninterest in a jointly controlled entity is initially recorded at cost and adjustedthereafter for the post acquisition change in the venturers share of net assetsof the jointly controlled entity. The profit or loss of the venturer includes theventurers share of the profit or loss of the jointly controlled entity.

2.2 Forms of joint venture

Joint ventures take many different forms and structures. IAS 31 identifiesthree broad types:

Jointly controlled operations; Jointly controlled assets; and Jointly controlled entities.

2.3 Characteristics

The following characteristics are common to all joint ventures:

two or more venturers are bound by a contractual arrangement; and

the contractual arrangement establishes joint control.

Commentary

No single venturer can be in a position to control the activity unilaterally.

The contractual arrangement will usually be in writing and cover:

the activity, duration and reporting obligations of the joint venture;

the appointment of the board of directors or equivalent governingbody of the joint venture and the voting rights of the venturers;

capital contributions by the venturers; and

the sharing by the venturers of the output, income, expenses orresults of the joint venture.

Commentary

One venturer may be the operator or manager under the terms of the

agreement. They will carry out the policy of the joint venture as agent for,

and as agreed by, the venturers. If they are able to govern the financial and

operating policies of the economic activity, they control the venture. If so,the venture is a subsidiary of the operator and not a joint venture.


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3 Jointly controlled operations

3.1 Description

The operation of some joint ventures involves the use of the assets and other resources

of the venturers rather than the establishment of a corporation, partnership or otherentity, or a financial structure that is separate from the venturers themselves.

Each venturer uses its own property, plant and equipment and carries its owninventories. It also incurs its own expenses and liabilities and raises its ownfinance, which represent its own obligations.

The joint venture activities may be carried out by the venturers employeesalongside the venturers similar activities.

The joint venture agreement usually provides a means by which the revenuefrom the sale of the joint product and any expenses incurred in common areshared among the venturers.

Illustration 1 Jointly controlled operations

Two or more venturers combine their operations, resources and expertise in order tomanufacture, market and distribute jointly a particular product, such as an aircraft.

Different parts of the manufacturing process are carried out by each of the venturers.Each venturer bears its own costs and takes a share of the revenue from the sale of theaircraft, as determined in the contractual arrangement.

3.2 Presentation and accounting

A venturer should recognise in its separate financial statements:

the assets that it controls and the liabilities that it incurs; and the expenses that it incurs and its share of the income that it earns

from the sale of goods or services by the joint venture.

Commentary

As the assets, liabilities, income and expenses are recognised in the financial statements

of the individual venturers, no separate financial statements for external use are

required for the venture. No adjustments or consolidation procedures are required in

respect of those items in any consolidated accounts produced by the venturers.

Each venturer will usually maintain a joint venture account (as part of its managementaccounts) in which all transactions they enter into on behalf of the venture are recorded.

Commentary

At end of each period a memorandum joint venture account is prepared

which combines all expenses and income from individual joint venture

accounts, in order to calculate the profit/loss to date. The profit/loss arisingis then split in the agreed profit sharing ratios.


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Points for consideration

Transfer of goods between ventures should be ignored (since it doesnot change who paid for the goods).

Expenses borne by one venturer only:

(1) Record expense as normal

Dr Joint venture xCr Cash x

(2) Remove expense from memorandum account.

(3) Adjust joint venture account of venturer who will bear expense:

Dr Expense xCr Joint venture x

Worked example 1

Q, a sound engineer, and R, a lighting engineer, entered into a joint venture to stage aconcert. They agreed to purchase certain items of equipment needed to convert theirlocal hall into a suitable venue, book the performers and sell tickets. Both are self-employed and decided to record all transactions in joint venture accounts within theirown business books.

Q purchased a number of radio microphones for $400. He also paid $150 for theprinting of tickets and programmes.

R purchased a computerised lighting deck for $600 and paid a total of $2,000 to theperformers. She also paid $800 for the rental of the hall.

Q sold 200 tickets at $12 each. R sold 500.

After the concert, Q and R prepared a pint venture account. They agreed that theywould each retain the equipment they had purchased at a valuation of $150 for themicrophones and $350 for the lighting deck. Q and R also agreed to share profits inthe ratio 2 to 3.

Rather than liquidate the venture, they decided to form a limited company (QR). Eachwould contribute the equipment purchased for the concert, valued at the amountsagreed earlier. They would also leave a total of $800 of the cash raised from theconcert in the company, allocated to each in such a way that their investment wasequal. Q and R would be the sole shareholders and each would receive a number of $1shares equal in value to his/her investment.

Required:

(a) Prepare a memorandum joint venture account for the concert and the

subsequent appropriation of profit.

(b) Prepare joint venture accounts for Q and R which show the amounts

invested by each in QR.

(c) Prepare the statement of financial position of QR as would have

appeared immediately after the companys incorporation.


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Worked solution 1

(a) Memorandum Joint Venture Account Q and R

$ $Sales (200 + 500 $12) 8,400

Expenses:Cost of equipment (600 + 400) 1,000

Less: Retained (150 + 350) (500)

Net cost of equipment 500Tickets and programmes 150Rental 800Performers 2,000 3,450

Net profit (4,950)

Allocated:

Q (2/5) 1,980R (3/5) 2,970 4,950

(b) Joint Venture accounts

Q R

Bank equipment 400 600 printing 150 rents 800 performers 2,000

Profit 1,980 2,970Balance c/d 20

2,550 6,370

Balance b/d 20Equipment 150 350

Bank 520 280

670 650

Q R

Bank tickets 2,400 6,000

Equipment 150 350

Balance c/d 20 2,550 6,370

Balance b/d 20Shares in QR 650 650

670 650

Q will invest equipment of $750 and cash of $520R will invest equipment of $350 and cash of $280

(c) QR Statement of financial position on incorporation

$Non-current assets (150 + 350) 500Bank 800

1,300

Share capital (650 + 650) 1,300


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4 Jointly controlled assets

4.1 Description

This type of joint venture involves the joint control, and often the joint

ownership, by the venturers of one or more assets contributed to, or acquiredfor the purpose of, the joint venture and dedicated to the purposes of the jointventure.

The assets are used to obtain benefits for the venturers.

Each venturer may take a share of the output from the assets and each bearsan agreed share of the expenses incurred.

These joint ventures do not involve the establishment of a corporation,partnership or other entity, or a financial structure that is separate from theventurers themselves. Each venturer has control over its share of futureeconomic benefits through its share in the jointly controlled asset.

Illustration 2 Jointly controlled assets

Many activities in the oil, gas and mineral extraction industries involve jointlycontrolled assets. For example, a number of oil production companies may jointlycontrol and operate an oil pipeline. Each venturer uses the pipeline to transport its own

product in return for which it bears an agreed proportion of the expenses of operatingthe pipeline.


Each venturer should include the following items in its accounting recordsand recognise them in its separate financial statements (and consequently inits consolidated financial statements if the venturer is part of a group):

its share of the jointly controlled assets, classified according to thenature of the assets rather than as an investment;

any liabilities which it has incurred on behalf of the joint venture, (e.g.in financing its share of the assets);

its share of any joint liabilities incurred in relation to the joint venture;

its share of income the joint venture, together with its share of anyexpenses incurred by the joint venture; and

any expenses that it has incurred in respect of its interest in the joint venture.

Commentary

As with jointly controlled operations, no separate financial statements for external use

are required for the venture. No adjustments or consolidation procedures are

required in respect of the jointly controlled asset in any consolidated accountsproduced by the venturers. Again, management accounts will usually be used to

assess the performance of the joint venture.


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5 Jointly controlled entities

5.1 Description

This is a joint venture, which involves the establishment of a corporation,

partnership or other entity in which each venturer has an interest.

The entity operates in the same way as other entities, except that a contractualarrangement between the venturers establishes joint control over theeconomic activity of the entity.

A jointly controlled entity controls the assets of the joint venture, incursliabilities and expenses and earns income. It may enter into contracts in itsown name and raise finance for the purposes of the joint venture activity.

Each venturer is entitled to a share of the results of the jointly controlledentity, although some jointly controlled entities also involve a sharing of theoutput of the joint venture.

Illustration 3 Jointly controlled entities

An entity may commence a business in a foreign country in conjunction with thegovernment or other agency in that country, by establishing a separate entity which is

jointly controlled by the entity and the government or agency.

Commentary

A jointly controlled entity maintains its own accounting records and prepares andpresents financial statements (e.g. under IFRS) in the same way as other entities.


Each venturer usually contributes cash or other resources to the jointly controlledentity. These contributions are included in the accounting records of the venturer andrecognised in its financial statements as an investment in the jointly controlled entity.

A venturer shall recognise its interest in a jointly controlled entity usingeither proportionate consolidation or the equity method.

5.2.1 Proportionate consolidation

The application of proportionate consolidation means that the statement offinancial position of the venturer includes its share of the assets that it controls

jointly and its share of the liabilities for which it is jointly responsible.

The statement of comprehensive income of the venturer includes its share ofthe income and expenses of the jointly controlled entity.

Commentary

Note that the venturer may be a single entity or a group (in which case thestatement of financial position and statement of comprehensive income will

be consolidated statements).


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Different reporting formats may be used:

The venturer may combine its share of each of the assets, liabilities,income and expenses of the jointly controlled entity with similaritems in its financial statements on a line-by-line basis.

Commentary

For example, it may combine its share of the jointly controlled entitys

inventory with the inventory of the consolidated group and its share of the

jointly controlled entitys property, plant and equipment with the same items

of the consolidated group.

Alternatively, the venturer may include separate line items for itsshare of the assets, liabilities, income and expenses of the jointlycontrolled entity in its consolidated financial statements.

Worked example 2

Purple Inc owns 80% of Sepia and 40% of Jade. Jade is a jointly controlled entity.Statements of financial position of the three companies at 31 December 2007 are:

Purple Sepia Jade$ $ $

Investment: shares in Sepia 800 Investment: shares in Jade 600 Other non-current assets 1,600 800 1,400Current assets 2,200 3,300 3,250

5,200 4,100 4,650

Share capital $1 ordinary shares 1,000 400 800Retained earnings 4,000 3,400 3,600Liabilities 200 300 250

5,200 4,100 4,650

Purple acquired its shares in Sepia many years ago when Sepias retained earningswere $520. Purple acquired its shares in Jade at the beginning of the year when Jadesretained earnings were $400.

The balance of goodwill relating to Serpia had been written off as impaired three yearsago.The value of goodwill in respect of Jade remains unchanged at 31 December 2007.

Required:

Prepare the consolidated statement of financial position at 31 December 2007

incorporating the interest in Jade using proportionate consolidation.


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Worked solution 2

Purple Inc: Consolidated statement of financial position as at 31 December 2007

$Goodwill (W1) 120

Non-current assets (1,600 + 800 + (40% 1,400)) 2,960Current assets (2,200 + 3,300 + (40% 3,250) 6,800

9,880

Share capital 1,000Retained earnings (W4) 7,520

8,520

Non-controlling interests (20% (400 + 3,400)) 760Liabilities (200 + 300 + (40% 250) 600

9,880

WORKINGS

(1) Goodwill

$In joint venture (W3) 120In subsidiary (W2) 64In subsidiary amortised or written off as impaired (64)

In statement of financial position 120

(2) Goodwill in subsidiary

$Cost of investment in subsidiary 800

Net assets of subsidiary on acquisition(400 + 520) 80% (736)

Goodwill 64

(3) Goodwill in joint venture

$Cost of investment in joint venture 600

Net assets of joint venture on acquisition(800 + 420) 40% (480)

Goodwill 120


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(4) Consolidated retained earnings

$Purple 4,000Sepia post-acquisition (3,400 520) 80% 2,304

Jade post-acquisition (3,600 400) 40% 1,280Goodwill impaired (64)7,520

5.2.2 Equity method

In its consolidated financial statements, a venturer should report its interest ina jointly controlled entity using the equity method as described by IAS 28(see previous session).

The use of the equity method is supported by those:

who argue that it is inappropriate to combine controlled items withjointly controlled items; and

who believe that venturers have significant influence, rather thanjoint control, in a jointly controlled entity.

However, IAS 31 does not recommend the use of the equity method becauseproportionate consolidation better reflects the substance and economic reality ofa venturers interest in a jointly controlled entity (i.e. control over the venturersshare of the future economic benefits.

Commentary

Nevertheless, it permits the use of the equity method when recognising

interests in jointly controlled entities.

A venturer should discontinue the use of proportionate consolidation or theequity method from the date on which it ceases to have joint control over, or(for the equity method) have significant influence in, a jointly controlledentity.

5.3 Transactions between venturer and a joint venture

When a venturer contributes or sells assets to a joint venture, recognition ofany portion of a gain or loss from the transaction reflects the substance of thetransaction.

While the assets are retained by the joint venture, and provided the venturerhas transferred the significant risks and rewards of ownership, the venturerrecognises only that portion of the gain or loss that is attributable to theinterests of the other venturers.

The venturer recognises the full amount of any loss when the contribution or

sale provides evidence of a reduction in the net realisable value of currentassets or an impairment loss.


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When a venturer purchases assets from a joint venture, the venturer does notrecognise its share of the profits of the joint venture from the transaction untilit resells the assets to an independent party.

Commentary

A venturer recognise its share of the losses resulting from these transactions

in the same way as profits except that losses are recognised immediately

when they represent a reduction in the net realisable value of current assets

or an impairment loss.

Worked example 3

Alpha Group and Beta Group set up a joint venture, Gamma. Alpha owns 60% of Gamma whilst Betaowns the remaining 40%.

Alpha sells to the joint venture a piece of land for $2m making a profit of $500,000 on the assetscarrying value. At the year end, the land remains in the books of the Gamma.

Required:

Show the entries that would be made in the consolidated accounts of Alpha Group to reflect the

sale of the land.

Worked solution 3

Portion of gain realised by Alpha group = 40% $500,000 = $200,000

Therefore the remaining 60% of the gain ($300,000) has not yet been realised by theAlpha group and should be eliminated on consolidation.

On consolidation the following adjustment will be made:

Dr Profit or loss (retained earnings) 300,000Cr Land 300,000

This eliminates Alphas unrealised share of the profit and reduces the land to $900,000, in effectAlphas share of the carrying value prior to the sale to Gamma ($1,500,000 60%).

5.4 Exemptions to proportionate consolidation and equity methodsCommentary

The exemptions are basically the same as for interests in associates under

IAS 28 and subsidiaries under IAS 27

If the investment in a jointly controlled entity is classified as held for sale account for asrequired by IFRS 5 Non-current Assets Held for Sale and Discontinued Operations.

If the investor is also a parent company within a group that has elected not topresent consolidated financial statements measure the investment at cost or in

accordance with IAS 39.


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The investment in the associate will be measured at cost or in accordance withIAS 39 ifallof the following apply:

the venturer is a wholly-owned subsidiary (or partially-owned andother owners do not object); and

the venturers debt or equity instruments are not traded in a publicmarket; and

the venturer does not file its financial statements with a securitiesregulator; and

the ultimate (or any intermediate) parent of the venturer producesconsolidated financial statements available for public use under IFRS.

Commentary

This allows investors who do not have investments in a subsidiary, but onlyhave an investment in a jointly controlled entity, to be exempt from the

requirement to use proportionate consolidation or the equity method on the

same basis as parents under IAS 27.

5.5 Separate financial statements of a venturer

An interest in a jointly controlled entity is accounted for:

Under IFRS 5 if classified as held for sale; or At cost or in accordance with IAS 39.

5.6 Reporting the interests of an investor An investor in a joint venture that does not have joint control accounts for

that investment in accordance with IAS 39 or, if it has significant influence inthe joint venture, in accordance with IAS 28.

5.7 Ceasing to be a venturer in a joint venture

From the date on which a jointly controlled entity becomes a subsidiary of aventurer, the venturer accounts for its interest in accordance with IAS 27.

From the date on which a jointly controlled entity becomes an associate of a

venturer, the venturer accounts for its interest in accordance with IAS 28.

6 Disclosure

A venturer shall disclose the method it uses to recognise its interests in jointlycontrolled entities.

6.1 Contingencies

A venturer should disclose the aggregate amount of the following contingent

liabilities, unless the probability of loss is remote, separately from the amountof other contingent liabilities:


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any contingent liabilities hat the venturer has incurred in relation toits interests in joint ventures and its share in each of the contingentliabilities which have been incurred jointly with other venturers;

its share of the contingent liabilities of the joint ventures themselvesfor which it is contingently liable; and

those contingencies that arise because the venturer is contingentlyliable for the liabilities of the other venturers of a joint venture.

A venturer discloses the aggregate amount of any capital commitments inrespect of its interests in joint ventures separately from other commitments.

6.2 Interests

A venturer should list and describe interests in significant joint ventures andthe proportion of ownership interest held in jointly controlled entities.

A venturer which reports its interests in jointly controlled entities using theline by line reporting format for proportionate consolidation or the equitymethod should disclose the aggregate amounts of each of:

current assets long-term assets current liabilities long-term liabilities income and expenses related to its interests in joint ventures.

Illustration 4

Scope of consolidation (extract)Five joint ventures the same number as in the previous year are included by proportionateconsolidation in compliance with IAS 31 (Interests in Joint Ventures). Excludedfrom consolidation are 103 subsidiaries that in aggregate are immaterial to the net worth,financial position and earnings of the Bayer Group; they account for less than 0.3 percentof Group sales, less than 0.7 percent of stockholders equity and less than 0.4 percent oftotal assets.

The effect of joint ventures on the Group balance sheet and income statement is asfollows:

2006 2006

million million

Current assets 21 Income 59

Noncurrent assets 56 Expenses (64)

Current liabilities (30)

Noncurrent liabilities (9)

Net assets 38 Income after taxes (5)

Notes to the Consolidated Financial Statements of the Bayer Group 2006


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7 Consolidation methods Summary

The three consolidation methods give the same results as is shown by the following:

Worked example 4Entity M has acquired 50% of Entity X.

Entity X Summary statement of financial position at year end

$Non-current assets 600Net current assets 400

_____

1,000_____

Capital 200Retained earnings 800

_____

1,000_____

Statement of comprehensive income for the year

$Revenue 600Costs (400)

___

Profit 200___

Required:

Calculate the net assets and profit of Entity X which will be included in the

consolidated financial statements of Entity M if Entity X is:

(a) a subsidiary;

(b) an associate;

(c) a jointly-controlled entity (using proportional consolidation).


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Worked solution 4

(a) Subsidiary (b) Associate (c) Joint venture

$ $ $Non current 600 300

Net current 400 200Investment in A 500 Non-controlling interests (500)

___ ___ ___

500 500 500___ ___ ___

Included inconsolidated retained earnings 500 500 500

___ ___ ___

(a) Subsidiary (b) Associate (c) Joint venture

$ $ $

Revenue 600 300Costs (400) (200)Income from A 100

Non-controlling interests (100) ___ ___ ___

Profit for year 100 100 100___ ___ ___

Focus

You should now be able to:

define joint ventures (i.e. jointly controlled operations, assets and entities);

distinguish between equity accounting and proportional consolidation;

describe and prepare accounts under the two formats of proportionalconsolidation;

prepare consolidated financial statements to include a single subsidiary and ajoint venture (under both methods).

Documents

DipIFR-Session27 d08 Interest in JVs