ACCA DipIFR question papers and answers on IAS 24 June 2014

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ACCA DipIFR question papers and answers on IAS 24 from June 2014

All questions on IAS 24 Related parties which have appeared in ACCA DipIFR from June 2014 have been indexed here. The answers are based on the standards prevalent at the exam point in time.

For the benefit of the readers, we have put the following sequentially to help them understand better

  • Question - Relevant portion of the exam pertaining to the standard has been recreated
  • Answer - Answers as shared by the ACCA Examination team which was required for the question
  • Examiners Feedback - Feedback on answers given by the students for that exam, this is a critical part of learning as students can learn from mistakes which other students did

Question

You are the financial controller of Omega, a listed company which prepares consolidated financial statements in accordance with International Financial Reporting Standards (IFRS). The year end of Omega is 31 March and its functional currency is the $. Your managing director, who is not an accountant, has recently prepared a list of questions for you concerning current issues relevant to Omega:

One of my fellow directors has informed me that on 1 January 2014 his spouse acquired a controlling interest in one of our major suppliers, Sigma. He seemed to think that this would have implications for our financial statements. I cannot understand why. Our purchases from Sigma were $1·5 million for each month of our year ended 31 March 2014 and I acknowledge this is a significant amount for us. However, I can’t see how the share purchase on 1 January 2014 affects our financial statements – all the purchases from Sigma were made at normal market rates, so what’s the issue? Please explain this to me and identify any impact on our financial statements.

Answer

From 1 January 2014, Sigma would be regarded as a related party of Omega under IAS 24 – Related Party Disclosures.  This is because Sigma is controlled by the close family member of one of Omega’s key management personnel. This means that, from 1 January 2014, the purchases from Sigma would be regarded as related party transactions.


Transactions with related parties need to be disclosed in the notes to the financial statements, together with the nature of the relationship. It is irrelevant whether or not these transactions are at normal market rates.  The disclosures would state that a company controlled by the spouse of a director supplied goods to the
value of $4·5 million (3 x $1·5 million) in the current accounting period. It would not be necessary to name the company.

Examiners feedback

The scenario involved a transaction with a company (Sigma) that was controlled by the spouse of one of the directors of the reporting entity (Omega). A number of candidates incorrectly concluded that Sigma was a subsidiary of Omega and should therefore be consolidated, completely missing the related party issue. Another common mistake was to state that, due to the relationship between Omega and Sigma, international financial reporting standards (IFRS) required the transactions to be accounted for at normal market rates. This shows a significant misunderstanding of the role of IFRS.

Question

Delta is an entity which prepares financial statements to 31 March each year. Each year the financial statements are authorised for issue on 20 May. The following events are relevant to the year ended 31 March 2016:

On 1 June 2015, the spouse of one of the directors of Delta purchased a controlling interest in entity X, a long-standing customer of Delta. Sales of products from Delta to entity X in the two-month period from 1 April 2015 to 31 May 2015 totalled $800,000. Following the share purchase by the spouse of one of the directors of Delta on 1 June 2015, Delta began to supply the products at a discount of 20% to their normal selling price and allow entity X three months’ credit (previously entity X was only allowed one month’s credit, Delta’s normal credit policy). Sales of products from Delta to entity X in the ten-month period from 1 June 2015 to 31 March 2016 totalled $6 million. On 31 March 2016, the trade receivables of Delta included $1·8 million in respect of amounts owing by entity X. 

Explain and show (where possible by quantifying amounts) how this event would be reported in the financial statements of Delta for the year ended 31 March 2016.

Answer

Delta would include the total revenue of $6·8m ($6m + $800,000) from entity X receivable in the year ended 31 March 2016 within its revenue and show $1·8m within trade receivables at 31 March 2016.  The spouse of a director of Delta would be regarded as a related party of Delta because he/she is a close family member of one of the key management personnel of Delta. 


From 1 June 2015, entity X would also be regarded as a related party of Delta because from that date entity X is an entity controlled by another related party. Because entity X is a related party with whom Delta has transactions, then Delta should disclose:
– The nature of the related party relationship.
– The revenue of $6m from entity X since 1 June 2015.
– The outstanding balance of $1·8m at 31 March 2016. In the current circumstances it may well be necessary for Delta to also disclose the favourable terms under which the transactions are carried out.

Examiners feedback

The acquisition by the spouse of Delta’s director of the controlling share in X makes Delta and X related parties. It was necessary for candidates not only to mention related parties but also name them and explain why they should be treated as related parties (because he/she is a close family member of one of the key management personnel of Delta). Not all candidates referred to Delta and X as related parties, some believed that the spouse and X are related parties basing on the control shareholding. Some candidates stated that Delta becomes the parent
company for X and should consolidate its financial statements. Candidates were expected to note that related parties’ data should be disclosed, including the
amounts of revenues (after the purchase of controlling share) and outstanding balances were to be disclosed.

Question

You are the financial controller of Omega, a listed entity which prepares consolidated financial statements in accordance with International Financial Reporting Standards (IFRS). You have recently produced the final draft of the financial statements for the year ended 30 September 2016 and these are due to be published shortly. The managing director, who is not an accountant, reviewed these financial statements and prepared a list of queries arising out of the review.

 One of the notes to the financial statements gives details of purchases made by Omega from entity X during the period. I own 100% of the shares in entity X but I do not understand why it is necessary for any disclosure whatsoever to be made in the Omega financial statements. The transaction is carried out on normal commercial terms and is totally insignificant to Omega, representing less than 1% of Omega’s purchases.

Answer

The reason disclosure of this transaction is necessary is because entity X is a related party of Omega. Related parties are generally characterised by the presence of control or influence between the two parties.

IAS 24 – Related Party Disclosures – identifies related parties as, inter alia, key management personnel and companies controlled by key management personnel. On this basis, entity X is a related party of Omega.

Where related party relationships exist, IAS 24 requires the disclosure of the existence of the relationship where the related party controls the reporting entity. This is not the case here, so in the absence of transactions disclosure would not be required.

Where transactions occur with related parties, IAS 24 requires that details of the transactions are disclosed in a note to the financial statements. This is required even if the transactions are carried out on a normal arm’s length basis.

Transactions with related parties are material by their nature, so the fact that the transaction may be numerically insignificant to Omega does not affect the need for disclosure.

Examiners feedback

In part (a) most candidates realised that entity X was a related party to Omega. However only few fully explained exactly why this was so, and that related party transactions are material by their nature rather than on the basis of their size. A few candidates made the erroneous statement that entity X was a subsidiary of Omega and should be consolidated by Omega.

 

Question

You are the financial controller of Omega, a listed entity which prepares consolidated financial statements in accordance with International Financial Reporting Standards (IFRS). You have recently prepared the financial statements for the year ended 30 September 2017 and these are due to be published shortly. The managing director has reviewed these financial statements and has prepared a list of queries arising out of the review.

As you know, my son owns a business that supplies us with a very small proportion of the components that we use in our production process. This business is one of a number that supply us with these components and the overall quantity is totally insignificant to us. I was very surprised to see that details of these transactions with my son’s business have been disclosed in the notes to the draft financial statements. This seems ridiculous when transactions with far more significant suppliers are not disclosed at all. Please explain the rationale of this disclosure to me.

 Answer

Under the provisions of IAS 24 – Related Party Disclosures – your son’s business is a related party to Omega.

Your son’s business is a related party because the business is controlled by your son, who is one of your ‘close family members’ and you are a part of Omega’s ‘key management’.

IAS 24 requires disclosure of all transactions with related parties irrespective of their size.

IAS 24 states that transactions with related parties are material by their nature.

Feedback

Almost all candidates identified this as a related party issue, with the consequential need to disclose details of transactions. One factor that did discriminate between candidates was the extent of comment on the fact that related party transactions are material by their nature, rather than by their size.

 

Question

Omega is a listed entity and you are the financial controller. The financial statements of Omega for the year ended 31 March 20X5 are currently being prepared. One of Omega’s directors has sent you three questions regarding the financial statements.You may know that the contract for cleaning our Head Office has been given to a firm which is controlled by my brother. This contract was approved in the normal way and I was not involved in the approval process to avoid any perception of a conflict of interest as my brother and I are known to holiday and socialise together. The contract has normal commercial terms and is very insignificant in the context of Omega as an entity. I’m very surprised, therefore, to see details of this contract disclosed in our financial statements when many other much more financially significant contracts are not disclosed in the same detail. Surely this disclosure is unnecessary when the monetary amounts are so small and there is nothing ‘out of the ordinary’ about the contract?

Provide answers to the questions raised by one of Omega’s directors relating to the financial statements for the year ended 31 March 20X5

 Answer

Under the principles of IAS 24 – Related Party Disclosures – your brother’s firm is a related party of Omega.

This is because the firm is controlled by the close family member (your brother) of a member of the key management personnel of Omega (yourself).

IAS 24 requires that the existence of all related party relationships be disclosed together with details of any transactions and outstanding balances (exact words not needed).

IAS 24 regards related party relationships as material by their nature so the fact that the transaction is financially insignificant and ordinary to Omega is not relevant in terms of requiring the disclosure.

Feedback

Answers to question were generally good and there are no common errors to report to candidates or tutors.

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