DIGIWIRE (SEP/DEC 2019)
a) Using exhibits I and 2, advise the directors of Digiwire Co on the
recognition and measurement of the:
(i) Clamusic Co shares received as revenue for the sale of the three-
year license and how they should be accounted for in the financial
statements for the year ended 31 December 20X6; and
IFRS 15 Revenue from Contracts with Customers states that non-cash
considerations received should be measured at FV of the consideration
received. Since the consideration is in terms of 7% of unlisted shares in
Clamusic Co, IFRS 13 Fair Value Measurement states three approaches
to measure the fair value, which is market approach, income approach and
adjusted net asset approach
Digiwire Co uses market approach with the range of fair values being
$280,000 to $350,000 (7% x $4m to $5m) at the date of contract and
$420,000 to $490,000 (7% x $6m to $7m) at the year end. Since the fair
valuation is based upon a controlling interest as it is based on a similar
listed company, a discount on valuation of shares should be done. The
estimated value then would be a midpoint between $315,000 [($280,000+
$350,000)/2] at the date of the contract and $455,000 [(420,000+
$490,000)/2] at the year end.
At initial recognition, the shares fair value is $315,000 and are recognized
as revenue over-time as Digiwire Co does not has control over the item yet
as the performance obligation is completed over time over the three-year
contract term. The difference between the initial carrying amount of shares
and the revenue recognized as contract liability.
According to IFRS 9 Financial Instruments, equity instruments should be
measured at fair value in the SOFP and the gain/loss on remeasurement
is recognized in the SOPL Since the equity investment is not held for
trading, at initial recognition the fair value is measured through FVTOCI
and the dividend income is recognized in SOPL. The 7% shares is
remeasured at $455,000 at 31 December 20X6. A gain of $140,000
($4455,000-$315,000) is recorded either in the P&L or OCI depending on
election being made at initial recognition. If OCI is elected, the gain is not
reclassified to P&L.
(ii) Royalties which Clamusic Co has agreed to pay as revenue for the
sale of the three-year license in the financial statements for the year
ended 31 December 20X6. Your answer to (a)(i) should demonstrate
how it is supported by the Conceptual Framework for Financial
Reporting.
IFRS 15 Revenue from Contracts with Customers states that revenue from
sales-based royalty is recognized when subsequent sale occurs. At the
end of first year of contract, royalty income is calculated based on sales for
the period which is $50,000 (5% x $1 million).
The Conceptual Framework states that an item that meets the definition of
an element should be recognized if recognition provides useful information
which is relevant and provides faithful representation of the underlying
transactions. The recognition of royalties in the SOPL will help users of
financial statement to assess Digiwire’s economic performance and make
investment decisions. Since the sales made in the year can be measured
accurately and so is the royalty income, a faithful representation of income
is possible. Future royalty income should not be recognized as it cannot be
measured and an estimation will not provide faithful representation. The
principles in the Conceptual Framework relating to the recognition is
consistent with approach taken by Digiwire Co.
b) Using exhibit 3 and based on IFS Accounting Standards, advise the
directors on the following:
(i) The classification of the investment which Digiwire Co has in
FourDee Co;
IFRS 11 Joint Arrangements defines joint control as contractually agreed
joint control of an arrangement, which exists only when decision about the
relevant activities require the unanimous consent of the parties sharing
control. This is the case with FourDee Co as the decisions made are by
unanimous vote by both parties that share control.
The investment in FourDee Co is a joint venture as it is a separate
company and the venturers have rights to net assets of the arrangement.
According to IAS 28 Investments in Associates and Joint Ventures, a joint
venturer accounts for an investment in a joint venture using equity method.
Therefore, the investment is initially measured at cost. The subsequent
measurement will recognize the share of joint venture’s profits and other
comprehensive income.
(ii) The derecognition of the assets exchanged for the investment in
FourDee Co and any resulting gain/loss on disposal in the financial
statements of Digiwire Co at 31 December 20X6; and
Digiwire Co has exchanged non-monetary assets for an investment in
Four Dee Co, requiring the de-recognition of the assets contributed. The
property, with a carrying amount of $6 million, is de-recognised, while the
internally generated intellectual property has no carrying amount. The
cryptocurrency, recorded at $3 million, also needs to be de-recognised.
Under lAS 28 Investments in Associates and Joint Ventures, when a joint
venturer contributes a non-monetary asset to a joint venture in exchange
for an equity interest, the joint venturer recognizes a portion of the gain or
loss on disposal attributable to the other parties. Digiwire Co must limit the
profit on disposal of its non-monetary assets to 50% as it effectively
disposes of only 50% of the assets contributed.
Consequently, the carrying amount of the joint venture in Digiwire's
financial statements at 31 December 20X6 will be $11.5 million. This
comprises the derecognized carrying amounts for property and
cryptocurrency ($6m + $3m), plus 50% of the gain on disposal for property
and cryptocurrency (($4m - $3m) + ($10m - $6m)). A gain of $2.5 million
will be recorded in the profit or loss.
(iii) Whether the cryptocurrency should be classified as a financial asset
or an intangible asset. Your answer should also briefly consider
whether fair value movements on the cryptocurrency should be
recorded in profit or loss.
Cryptocurrency is not considered cash or cash equivalents due to its
exposure to significant market value fluctuations and the absence of a
contractual right to receive cash. This means it does not qualify as a
financial asset under IAS 32 Financial Instruments: Presentation.
According to IAS 38 Intangible Assets, an intangible asset is an identifiable
non-monetary asset without physical substance. Cryptocurrency appears
to meet this definition. If recognized as an intangible asset, it could be
measured at cost less amortization and impairment. If its useful life is
deemed indefinite, no amortization would be charged. Alternatively, due to
an active market, it could be measured at fair value, with gains on
remeasurement presented in other comprehensive income and not
reclassified through profit or loss upon derecognition.
The Conceptual Framework suggests that when choosing a measurement
base, the asset's characteristics and contribution to future cash flows
should be considered. Given cryptocurrency's volatile market value and
short-term trading nature, fair value measurement is likely more relevant
than historical cost.
Regarding income presentation, the Conceptual Framework emphasizes
profit or loss as the primary indicator of economic performance. Income or
expenses resulting from current value remeasurement might be presented
in other comprehensive income if it enhances the relevance of profit or
loss. However, if cryptocurrency is held as an investment, gains and
losses on fair value remeasurement should likely be recorded in profit or
loss, aligning with financial assets held in the short term under IFRS 9
Financial Instruments.
c) Using exhibit 4, explain the financial reporting principles involved in debt
factoring and advise how each of the two alternative agreements would
affect the financial statements of future years.
Debt Factoring
IFRS 9 Financial Instruments requires Digiwire Co to consider the commercial
substance rather than the legal form of the debt factoring arrangements. The
trade receivables should be derecognised from the financial statements of
Digiwire Co when the following conditions are met:
(1) When Digiwire Co has no further rights to receive cash from the factor;
and either
(2) When substantially all of the risks and rewards of ownership relating to the
receivables have been transferred to the factor, or if substantially all of the
risks and rewards have not been transferred, then
(3) When Digiwire Co has no further control over the trade receivables
Agreement 1
There is a sharing of risks and rewards of ownership as the factoring is non-
recourse, except for Digiwire Co retaining an obligation to refund the factor 9% of
any unrecovered debts. However, it is evident that substantially all risks and
rewards of ownership have passed to the factor. The likelihood of an individual
default is low due to low credit risk, and the factor would bear the majority of the
loss from any default. Digiwire Co also no longer has access to the rewards of
ownership since the initial $32 million (80% of $40 million) is in full and final
settlement.
Moreover, the factor has taken full control over the collectability of the
receivables. As a result, the trade receivables should be removed from Digiwire
Co's financial statements, and $8 million (the difference between the receivables'
amount sold and the cash received) should be recognized as an irrecoverable
debt expense against Digiwire Co's profits. The guarantee should be treated as a
separate financial liability per IFRS 9, initially measured at its fair value of
$50,000.
Agreement 2
The risks and rewards of ownership do not initially transfer to the factor. The
factor has full recourse to Digiwire Co for a six-month period, meaning the risk of
irrecoverable debt remains with Digiwire Co. Additionally, Digiwire Co retains the
right to receive further cash payments from the factor, contingent on when and if
the customers pay the factor. Therefore, Digiwire Co still faces the risks
associated with slow or nonpayment by its customers. The receivables must
continue to be recognized in the financial statements, with the $0.8 million (20%
of $4 million) proceeds being treated as a short-term liability to the factor. The
receivables and liability balances will gradually decrease as the factor recovers
cash from Digiwire Co's receivables, adjusted for imputed interest and expensed
in profit or loss.
After six months, the risks and rewards of ownership transfer to the factor, and
the loan and receivable balances are offset. Any remaining balance within
Digiwire Co's receivables should be expensed in profit or loss as an irrecoverable
debt.
SYMBAL CO (SEP/DEC 2021)
a) Explain the principles of good disclosure which should be used to inform
investors regarding the company's holding of crypto assets.
IAS 1 requires relevant information about crypto assets to be included in the
notes if not elsewhere presented. While there are no specific disclosure
requirements for crypto assets, the general disclosure rule applies. Disclosing
risks, as per IFRS 7, is particularly important given their volatile nature. Notes
should be presented systematically, grouping similar items together. Disclosure of
significant accounting policies and judgments is crucial, especially for
understanding the treatment of crypto assets.
The Framework emphasizes the need for financial statements to faithfully
represent transactions. Disclosure of amounts invested in crypto assets and
related gains and losses is vital for assessing the past and predicting future cash
flows. Disclosure should be based on materiality to avoid cluttering financial
statements. Consistent disclosure ensures comparability, though it's challenging
without a standard. Financial information should be understandable, enhancing
users' understanding. The Conceptual Framework suggests aggregating
disclosed information appropriately; crypto assets should be separately
disclosed.
b) Using Exhibit 1, advise whether the various development and promotional
costs related to the ICO can be accounted for as an intangible asset at 31
March 20X7.
If costs do not meet IAS 38 requirements, they are recognized as expenses.
Costs qualify for intangible asset recognition only if it's probable that future
economic benefits will flow to the entity and the cost can be reliably measured.
The probability of future benefits should be based on reasonable assumptions
about future conditions.
When deciding on recognition, Symbal Co should assess if it can still control the
trading platform after issuing tokens and if it can expect future economic benefits
from token holders. It's crucial to determine if Symbal Co can gain future benefits
from token holders through services beyond token issuance.
If costs won't ensure future benefits, they should be expensed immediately. In
Symbal Co's case, it promises investor gains from token trading and takes a fee.
This suggests future economic benefits, allowing the costs to be recognized as
an intangible asset and amortized. However, promotional activity costs should be
excluded. If future circumstances indicate no future economic benefits, the
intangible asset would be impaired and written down.
c) Using exhibit 2, discuss how the receipt of $I million cash in the pre-sale
agreement should be accounted for in the financial statements for the year
ended 31 March 20X7 and how the $10 million raised in the ICO should be
accounted for in the financial statements for the year ended 31 March 20X8.
Year ended 31 March 20X7
Symbal Co's ICO success is not guaranteed, as it can be abandoned if the
minimum fundraising of $9 million isn't reached. The agreement also doesn't
grant the investor the right to be repaid $1 million in cash before 30 April 20X7.
Despite the lack of control over the ICO's outcome, the agreement imposes a
financial obligation. This is because it obligates Symbal Co to deliver cash or
another financial asset to another entity if the ICO fails by 30 April 20X7.
Therefore, at 31 March 20X7, the $1 million is considered a financial liability for
Symbal Co under IAS 32 Financial Instruments: Presentation at initial recognition.
Year ended 31 March 20X8
As of 30 April 20X7, token holders who paid $10 million have a one-time
entitlement to 10% of profits from the year ended 31 March 20X8. However, they
do not have the right to redeem their tokens or any residual interest in the
company's assets. Consequently, the company should not classify these inflows
as either a financial liability or equity but should instead recognize them as
income.
Dr Bank $10 m
Cr Financial Income $10 m
As of 30 April 20X7, the $1 million liability recorded for the pre-sale agreement
will also be reversed and recognized as income.
Initially, as of 30 April 20X7, Symbal Co considers the commitment to token
holders to pay 10% of annual profits for the year ended 31 March 20X8 as a
contingent liability. IAS 37 defines a contingent liability as a possible obligation
depending on the occurrence of uncertain future events. Recognition of this
liability depends on the company earning profits during the reporting period to 31
March 20X8. Therefore, a liability will be recognized if the company earns profits
during this period, resulting in a financial liability to token holders and an expense
to profit or loss.
The tokens do not qualify as equity instruments because they lack a residual
interest in the entity's assets after deducting all liabilities, and there is a
contractual obligation to deliver cash.
d) Using Exhibit 3, discuss why the granting of the tokens to the five directors
should be accounted for in accordance with IAS 19 Employee Benefits
rather than IFS 2 Shared-based Payment in the financial statements for the
year ended 31 March 20X7.
When evaluating the accounting treatment of such arrangements, entities should
assess the characteristics of the ICO tokens generated. Equity represents the
residual interest in an entity's assets after deducting all liabilities. If ICO tokens do
not meet the definition of equity, the arrangements do not qualify as share-based
payment arrangements under IFRS 2 Share-based Payment. Instead, they fall
under IAS 19 Employee Benefits as a non-cash employee benefit. IAS 19 is then
used to determine the recognition and measurement of the employee benefit.
Since the tokens do not grant directors a residual interest in Symbal Co's net
assets, they do not meet the definition of equity under IFRS. Therefore, the
arrangements do not qualify as share-based payment arrangements under IFRS
2 but are considered non-cash short-term employee benefits. Short-term
employee benefits are expected to be settled wholly within 12 months after the
end of the annual reporting period in which the employee services are rendered.
The essence of the arrangement is an exchange of employee services for tokens.
The arrangement includes a condition that directors must be employed at 31
March 20X7. Symbal Co. should recognize a liability and short-term employee
benefit expense at that date. Symbal Co. would measure the expected payment
by using the fair value of the tokens to be delivered to employees or by
estimating the cost of the goods or services expected to be delivered in the
future. This amount would be $250,000 (5x$50,000).
Dr Employee Costs $250,000
Cr Short-term employee benefit liability $250,000
