Annual Audited Accounts of Company A for the year ended June 30, 2009 showed that an amount of Rs. ‘X’ has been categorized under “Current Assets” as “Assets held for Sale”. On the other hand the amount has been recognized as “Share Deposit Money” under “Equity”. Notes of the Accounts states that this represents commercial and residential properties of the directors of the Company which are under “Equitable Mortgage” with the banks against which financial facilities have been obtained by the Company. The directors have relinquished ownership of the properties in favour of the Company. The transfer of title is subject to clearance from the lending banks. Once all approvals/clearance from the competent authorities for right issue are in place, share of the corresponding value will be issued to the directors of the Company. The afore-mentioned properties are already mortgaged with two commercial banks against various credit facilities availed by the Company.
Moreover, please provide the correct treatment of the afore-stated transaction, in case the Company had not accounted for the afore-stated transaction in accordance with the IAS & IFRS.
The Committee would like to draw your attention to the following paragraphs of IAS 32 ’Financial Instruments: Presentation’:
15 The issuer of a financial instrument shall classify the instrument, or its component parts, on initial recognition as a financial liability, a financial asset or an equity instrument in accordance with the substance of the contractual arrangement and the definitions of a financial liability, a financial asset and an equity instrument.
16 When an issuer applies the definitions in paragraph 11 to determine whether a financial instrument is an equity instrument rather than a financial liability, the instrument is an equity instrument if, and only if, both conditions (a) and (b) below are met:
(a) The instrument includes no contractual obligation:
(i) to deliver cash or another financial asset to another entity; or
(ii) to exchange financial assets or financial liabilities with another entity under conditions that are potentially unfavorable to the issuer.
(b) If the instrument will or may be settled in the issuer’s own equity instruments, it is:
(i) a non-derivative that includes no contractual obligation for the issuer to deliver a variable number of its own equity instruments; or
(ii) a derivative that will be settled only by the issuer exchanging a fixed amount of cash or another financial asset for a fixed number of its own equity instruments. For this purpose, rights, options or warrants to acquire a fixed number of the entity’s own equity instruments for a fixed amount of any currency are equity instruments if the entity offers the rights, options or warrants pro rata to all of its existing owners of the same class of its own non-derivative equity instruments. Also, for these purposes the issuer’s own equity instruments do not include instruments that have all the features and meet the conditions described in paragraphs 16A and 16B or paragraphs 16C and 16D, or instruments that are contracts for the future receipt or delivery of the issuer’s own equity instruments.
A contractual obligation, including one arising from a derivative financial instrument, that will or may result in the future receipt or delivery of the issuer’s own equity instruments, but does not meet conditions (a) and (b) above, is not an equity instrument. As an exception, an instrument that meets the definition of a financial liability is classified as an equity instrument if it has all the features and meets the conditions in paragraphs 16A and 16B or paragraphs 16C and 16D.
18 The substance of a financial instrument, rather than its legal form, governs its classification in the entity’s statement of financial position. Substance and legal form are commonly consistent, but not always. Some financial instruments take the legal form of equity but are liabilities in substance and others may combine features associated with equity instruments and features associated with financial liabilities.
The Committee is of the view that the substance of the contractual arrangements shall guide the company (issuer of financial instrument) to classify such instrument as equity or liability.
With regard to classification of the above mentioned properties as “Assets held for Sale” the Committee would like to draw attention to the following paragraphs of IFRS 5:
3 Assets classified as non-current in accordance with IAS-1 Presentation of Financial Statements shall not be reclassified as current assets until they meet the criteria to be classified as held for sale in accordance with this IFRS. Assets of a class that an entity would normally regard as non-current that are acquired exclusively with a view to resale shall not be classified as current unless they meet the criteria to be classified as held for sale in accordance with this IFRS.
6 An entity shall classify a non-current asset (or disposal group) as held for sale if its carrying amount will be recovered principally through a sale transaction rather than through continuing use.
7 For this to be the case, the asset (or disposal group) must be available for immediate sale in its present condition subject only to terms that are usual and customary for sales of such assets (or disposal groups) and its sale must be highly probable.
8 For the sale to be highly probable, the appropriate level of management must be committed to a plan to sell the asset (or disposal group), and an active programme to locate a buyer and complete the plan must have been initiated. Further, the asset (or disposal group) must be actively marketed for sale at a price that is reasonable in relation to its current fair value. In addition, the sale should be expected to qualify for recognition as a completed sale within one year from the date of classification, except as permitted by paragraph 9, and actions required to complete the plan should indicate that it is unlikely that significant changes to the plan will be made or that the plan will be withdrawn. The probability of shareholders’ approval (if required in the jurisdiction) should be considered as part of the assessment of whether the sale is highly probable
In view of the above, the Committee is of the opinion that if the above criteria of IFRS 5 are met then the properties may be recorded as held for sale.
(February 17, 2011)