– shows the difference between cases of entities involved in contracts containing a lease under IFRS 16 Leases and similar but different cases of entities involved in contracts NOT containing a lease under IFRS 16 Leases.
To start setting the stage, the definition of a lease: A contract, or part of a contract, that conveys the right to use an asset (the underlying asset) for a period of time in exchange for consideration.
1. Lease Rail cars
The case A contract between Customer and a freight carrier (Supplier) provides Customer with the use of 10 rail cars of a particular type for five years. The contract specifies the rail cars; the cars are owned by Supplier. Customer determines when, where and which goods are to be transported using the cars. When the cars are not in use, they are kept at Customer’s premises. Customer can use the cars for another purpose (for example, storage) if it so chooses.
However, the contract specifies that Customer cannot transport particular types of cargo (for example, explosives). If a particular car needs to be serviced or repaired, Supplier is required to substitute a car of the same type. Otherwise, and other than on default by Customer, Supplier cannot retrieve the cars during the five-year period.
The contract also requires Supplier to provide an engine and a driver when requested by Customer. Supplier keeps the engines at its premises and provides instructions to the driver detailing Customer’s requests to transport goods. Supplier can choose to use any one of a number of engines to fulfil each of Customer’s requests, and one engine could be used to transport not only Customer’s goods, but also the goods of other customers (ie if other customers require the transportation of goods to destinations close to the destination requested by Customer and within a similar timeframe, Supplier can choose to attach up to 100 rail cars to the engine).
Mergers and acquisitions (business combinations) can have a fundamental impact on the acquirer’s operations, resources and strategies. For most entities such transactions are infrequent, and each is unique. IFRS 3 ‘Business Combinations’ contains the requirements for accounting for mergers, which are challenging in practice.
This narrative provides a high-level overview of IFRS 3 and explains the key steps in accounting for business combinations in accordance with this Standard. It also highlights some practical application issues dealing with:
how to avoid unintended accounting consequences when bringing two businesses together, and
deal terms and what effect they can have on accounting for business combinations.
With the estimation challenges that analysts face in valuing young companies, it should come as no surprise that they look for solutions that seem to, at least on the surface, offer them a way out. Many of these solutions, though, are the source of the valuation errors we see in young company valuations. In this section, we will look at the most common manifestations of what we view as the dark side in young company valuations, and how they play out in the venture capital valuation method.
Top line and bottom line, no detail: It is difficult to estimate the details on cash flow and reinvestment for young companies. Consequently, many valuations of young companies focus on the top line (revenues) and the bottom line (earnings, and usually equity earnings), with little or no attention paid to either the intermediate items (that separate earnings from revenues) or the reinvestment requirements (that separate earnings from cash flows)
Focus on the short term, rather than the long term: The uncertainty we feel about the estimates that we make for young companies become greater as we go further out in time. Many analysts use this as a rationale for cutting short the estimation period, using only three to five years of forecasts in the valuation. “It is too difficult to forecast out beyond that point in time” is the justification that they offer for this short time horizon.
Mixing relative with intrinsic valuation: To deal with the inability to estimate cash flows beyond short time periods, analysts who value young companies use relative valuation as a crutch. Thus, the value at then end of the forecast period (three to five years) is often estimated by applying an exit multiple to the expected revenues or earnings in that year and the value of that multiple is itself estimated by looking at what publicly traded companies in the business trade at right now.
Discount rate as the vehicle for all uncertainty: The risks associated with investing in a young company include not only the traditional factors – earnings volatility and sensitivity to macroeconomic conditions, for example – but also the likelihood that the firm will not survive to make a run at commercial success. When valuing private businesses, analysts often hike up discount rates to reflect all of the concerns that they have about the firm, including the likelihood that the firm will not make it.
Ad hoc and arbitrary adjustments for differences in equity claims: As we noted in the last section, equity claims in young businesses can have different rights when it comes to cash flow and control and have varying degrees of illiquidity. When asked to make judgments on the value of prior claims on cash flows, superior control rights or lack of liquidity, many analysts use rules of thumb that are either arbitrary or based upon dubious statistical samples.
All five of these practices come into play in the most common approach used to value young firms, which is the venture capital approach. This approach has four steps to it:
If every business starts with an idea, young companies can range the spectrum. Some are unformed, at least in a commercial sense, where the owner of the business has an idea that he or she thinks can fill an unfilled need among consumers.
Others have inched a little further up the scale and have converted the idea into a commercial product, albeit with little to show in terms of revenues or earnings. Still others have moved even further down the road to commercial success, and have a market for their product or service, with revenues and the potential, at least, for some profits.
Since young companies tend to be small, they represent only a small part of the overall economy. However, they tend to have a disproportionately large impact on the economy for several reasons.
Get the requirements for properly disclosing the accounting policies to provide the users of your financial statements with useful financial data, in the common language prescribed in the world’s most widely used standards for financial reporting, the IFRS Standards. First there is a section providing guidance on what the requirements are, followed by a comprehensive example, easy to tailor to the specific needs of your company.
Example accounting policies guidance
Whether to disclose an accounting policy
1. In deciding whether a particular accounting policy should be disclosed, management considers whether disclosure would assist users in understanding how transactions, other events and conditions are reflected in the reported financial performance and financial position. Disclosure of particular accounting policies is especially useful to users where those policies are selected from alternatives allowed in IFRS. [IAS 1.119]
2. Some IFRSs specifically require disclosure of particular accounting policies, including choices made by management between different policies they allow. For example, IAS 16 Property, Plant and Equipment requires disclosure of the measurement bases used for classes of property, plant and equipment and IFRS 3 Business Combinations requires disclosure of the measurement basis used for non-controlling interest acquired during the period.
3. In this guidance, policies are disclosed that are specific to the entity and relevant for an understanding of individual line items in the financial statements, together with the notes for those line items. Other, more general policies are disclosed in the note 25 in the example below. Where permitted by local requirements, entities could consider moving these non-entity-specific policies into an Appendix.
Change in accounting policy – new and revised accounting standards
4. Where an entity has changed any of its accounting policies, either as a result of a new or revised accounting standard or voluntarily, it must explain the change in its notes. Additional disclosures are required where a policy is changed retrospectively, see note 26 for further information. [IAS 8.28]
5. New or revised accounting standards and interpretations only need to be disclosed if they resulted in a change in accounting policy which had an impact in the current year or could impact on future periods. There is no need to disclose pronouncements that did not have any impact on the entity’s accounting policies and amounts recognised in the financial statements. [IAS 8.28]
6. For the purpose of this edition, it is assumed that RePort Co. PLC did not have to make any changes to its accounting policies, as it is not affected by the interest rate benchmark reforms, and the other amendments summarised in Appendix D are only clarifications that did not require any changes. However, this assumption will not necessarily apply to all entities. Where there has been a change in policy, this will need to be explained, see note 26 for further information.
What is cloud computing and more specific software as a service?
Cloud computing is essentially a model for delivering information technology services in which resources are retrieved from the internet through web-based tools and applications, rather than a direct connection to a server. Data and software packages are stored in servers. Cloud computing structures allow access to information as long as an electronic device has access to the internet.
This type of system allows employees to work remotely. Cloud computing is so named because the information being accessed is found in the ‘clouds’, and does not require a user to be in a specific place to gain access to it. Companies may find that cloud computing allows them to reduce the cost of information management, since they are not required to own their own servers and can use capacity leased from third parties. Additionally, the cloud-like structure allows companies to upgrade software more quickly.
There are various types of cloud computing arrangements. Cloud services usually fall into one of three service models: infrastructure, platform and software. Here the focus is on software as a service (SaaS).
What is SaaS?
SaaS is a software distribution model in which the customer does not take possession of the supplier’s hardware and application software. Instead, customers accesses the supplier’s hardware and application software from devices over the internet or via a dedicated line. In these types of arrangements, the customer does not manage or control the underlying cloud infrastructure, including the network, servers, operating systems, storage, and even individual application software capabilities, with the possible exception of limited user-specific application software configuration settings, nor is the customer responsible for upgrades to the underlying systems and software.
The key issues
In practice, it is clear that there are various application issues relating to the customer’s accounting in SaaS arrangements. These arrangements may often be bundled with other products and services, such as implementation, data migration, business process mapping, training, and project management.
What Is Fintech or Financial Technology And Its Benefits?
New and fast-growing technologies like Financial Technology or Fintech have the potential benefits to collect and process data in real-time. This transforms how all businesses are working, how products and services are creating in the new economy, and how customers are engaging in this process. Every professional and commercial industry is affecting due by this change in workflows and business processes. The financial and economic sector is no exception.
Financial Technology or Fintech?
Fintech, short for Financial Technology, is a growing field and is now an economic revolution by the tech-savvy. It is the development of new technology to transform traditional institutions such as banks and insurance companies by uplift how they handle their finances and economic services. The process is not only digitizing money but also monetizing data to fit into the digitized world.
FinTech solutions have huge potential benefits for all businesses, especially new and existing small businesses. Small and medium-sized enterprises (SMEs) are essential for economic maturity and employment. However, others may find it difficult to get the financing they need to survive and thrive.
Automated drafting of portfolio management commentaries – Analytics & Reporting (October 2018, Societe Generale Securities Services)
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An Initial Coin Offering (‘ICO’) is a form of fundraising that harnesses the power of cryptographic assets and blockchain-based trading. Similar to a crowdfunding campaign, an ICO allocates (issues or promises to issue) digital token(s) instead of shares to the parties that provided contributions for the development of the digital token. These ICO tokens typically do not represent an ownership interest in the entity, but they often provide access to a platform (if and when developed) and can often be traded on a crypto exchange. The population of ICO tokens in an ICO is generally set at a fixed amount.
It should be noted that ICOs might be subject to local securities law, and significant regulatory considerations might apply.
Each ICO is bespoke and will have unique terms and conditions. It is critical for issuers to review the whitepaper (A whitepaper is a concept paper authored by the developers of a platform, to set out an idea and overall value proposition to prospective investors. The whitepaper commonly outlines the development roadmap and key milestones that the development team expects to meet) or underlying documents accompanying the ICO token issuance, and to understand what exactly is being offered to investors/subscribers. In situations where rights and obligations arising from a whitepaper or their legal enforceability are unclear, legal advice might be needed, to determine the relevant terms.
Private operating companies seeking a ‘fast track’ stock exchange listing sometimes arrange to be acquired by a smaller listed company (sometimes described as a ‘shell’ company or Special Purpose Acquisition Company or SPAC that is also a ‘shell’ company, especially incorporated (and listed) to serve a reverse acquisition/SPAC Merger). This usually involves the listed company issuing its shares to the private company shareholders in exchange for their shares.
The listed company becomes the ‘legal parent’ of the operating company, which in turn becomes the ‘legal subsidiary’.
A transaction in which a company with substantial operations (‘operating company’) arranges to be acquired by a listed shell company should be analysed to determine if it is a business combination within the scope of IFRS 3.
US GAAP comparison
The registering of securities that are issued by a special-purpose acquisition company (SPAC) — A Form S-1 may be used for the initial registration and sale of shares of a SPAC, a newly formed company that will use the proceeds from the IPO to acquire a private operating company (which generally has not been identified at the time of the IPO). To complete the acquisition of a private operating company, the SPAC may file a proxy or registration statement. Within four days of the closing of the acquisition of the private operating company, the SPAC must file a “super Form 8-K” that includes all of the information required in a Form 10 registration statement of the private operating company.
Is the transaction a business combination?
Answering this question involves determining:
which company is the ‘accounting acquirer’ under IFRS 3, ie the company that obtains effective control over the other
whether or not the acquired company (ie the ‘accounting acquiree’ under IFRS 3) is a business.
In these transactions, the pre-combination shareholders of the operating company typically obtain a majority (controlling) interest, with the pre-combination shareholders of the listed shell company retaining a minority (non-controlling) interest (i.e. a SPAC Merger). This usually indicates that the operating company is the accounting acquirer.
If the listed company is the accounting acquiree, the next step is to determine whether it is a ‘business’ as defined in IFRS 3. In general, the listed company is not a business if its activities are limited to managing cash balances and filing obligations. Further analysis will be needed if the listed company undertakes other activities and holds other assets and liabilities. Determining whether the listed company is a business in these more complex situations typically requires judgement.