Comprehensive Practice Question

Financial Reporting

Diversified Investments Company Ltd (‘DIC’) is an investment holding company which is listed on the

Zimbabwe Stock Exchange (ZSE). Its portfolio of holdings contains mainly entities with strong and

established brands which are involved in the manufacturing and retailing of fashion apparel and
similar items.

The consolidated annual financial statements of DIC for the most recent reporting period, ended 31

December 2012, are in the process of being finalised, but some outstanding issues still need to be

resolved. Selected information for the DIC group is set out below:

• The cost model is applied to all items of property, plant and equipment.

• A nominal pre-tax discount rate of 9.3% per annum applies where relevant and interest is

compounded annually.

• The non-controlling interest has been measured at fair value on the acquisition date for each

business combination.

• The group presents cash flows from operating activities using the indirect method.

• The following International Financial Reporting Standards (IFRSs) were early adopted during the

financial year ended 31 December 2011 (i.e. in the previous reporting period)

Intercompany transaction between CAZ Ltd and AAT Ltd DIC owns a controlling 75% equity interest
in CAZ Ltd (‘CAZ’) as well as a controlling 60% equity interest in AAT Ltd (‘AAT’), both of which were
acquired on 1 January 2008. During the process of determining the fair value of the net assets
acquired in each business combination, DIC considered one of CAZ’s factory buildings to be
undervalued at the acquisition date.
1 Details of this factory building as at 1 January 2008 were as follows:

Original cost to CAZ $650 000

2 On 1 January 2010 CAZ sold the factory building to AAT for $625 000. At that date AAT considered
the factory building to have a remaining useful life of 48 years and an estimated residual value of
$60 000. These estimates have been assessed and confirmed annually.

Bruma Ltd

Bruma Ltd (‘Bruma’) is an unlisted property holding company which focuses on the acquisition,
development and operation of shopping centres. The company was incorporated on 1 January 2005
with an issued share capital of 60 million ordinary shares. At that date DIC acquired 80% of the
issued share capital of Bruma. On 31 December 2012 Bruma issued 20 million ordinary shares for a
cash consideration. DIC acquired none of these shares.

The shareholders’ equity of Bruma was as follows:

* Bruma did not declare or pay any dividends during the year ended 31 December 2012.

The fair value of the non-controlling interest of Bruma was equal to the proportionate share of the
net assets on 1 January 2005.

Thibault Ltd

DIC paid $6,8 million to acquire a 40% interest in Thibault Ltd (‘Thibault’) on 1 March 2011. The
following also applied at that date:

• DIC incurred directly attributable transaction costs amounting to $100 000 relating to the
acquisition of the 40% equity interest.

• DIC entered into an agreement with a 35% shareholder of Thibault in terms of which DIC and that
party would jointly control Thibault. Thibault has been correctly classified by DIC as a joint venture in
terms of IFRS 11 and DIC applies the equity method to the investment.
• The assets and liabilities as recognised by Thibault were considered to be fairly valued with the
exception of the item of plant which was overvalued by $250 000. The estimated remaining useful
life of this item of plant was 72 months and the residual value was zero. (These estimates remained
unchanged until 31 December 2012.) No additional assets, liabilities or contingent liabilities were
identified by DIC on the date of acquisition.

The total shareholders’ equity of Thibault on 1 March 2011 was as follows:

Integritas Ltd

Integritas Ltd (‘Integritas’) is a diversified fashion retail group listed on the ZSE. Its operating and
financial policies are determined by the company’s Board of Directors. All the Integritas directors are
appointed by the shareholders at annual general meetings by simple majority vote. The company
had 2 500 000 ordinary shares in issue throughout the period 1 January 2008 to 31 December 2012.
Each ordinary share in Integritas entitles the holder to one vote at shareholders’ meetings. The
Memorandum and Articles of Association of Integritas do not alter the minimum number of voting
rights required to pass ordinary and special resolutions as specified in the Companies Act.

Details of voting rights represented at the annual general meetings of Integritas’s shareholders are
as follows:
The next annual general meeting of Integritas shareholders is scheduled for 29 March 2013.

On 1 January 2008 DIC acquired 40% of the ordinary shares of Integritas for $4.5 million. The
following pertains to this acquisition:

• No transaction costs were incurred.

• The net assets recognised by Integritas were considered to be fairly valued. No additional assets,
liabilities or contingent liabilities were identified by DIC on this date.

• Insurer Ltd, an unrelated Zimbabwe financial institution listed on the ZSE, held 10% of the ordinary
shares of Integritas. The remaining ordinary shares were widely held by shareholders holding less
than 1% each of the ordinary share capital.

• DIC correctly classified the interest as an investment in an associate. On 31 December 2012 DIC
acquired a further 8% of the Integritas ordinary shares in the open market. The following pertains to
this acquisition:

• DIC incurred directly attributable transaction costs of $75 000.

• The net assets recognised by Integritas were considered to be fairly valued except for its
production machinery, which was considered to be undervalued by $1 million. No additional assets,
liabilities or contingent liabilities were identified by DIC on this date.

• Integritas ordinary shares were trading at $8.25 per share on the ZSE on 31 December 2012 and
the 52% of Integritas not held by DIC had a fair value equal to the market value. Details relating to
the shareholders’ equity of the Integritas group are as follows:
The unlisted preference shares were issued on 1 August 2008 and are mandatorily convertible into
500 000 Integritas ordinary shares on 31 July 2013. The shares are not convertible prior to that date.
The holders of the preference shares do not have voting rights except on matters that directly affect
their rights. The preference shares had a fair value of $1.6 million on 31 December 2012. The
preference shares have been held by Insurer Ltd since 1 August 2008.

Maneo (Pvt) Ltd

Maneo (Pvt) Ltd (‘Maneo’) sources fashion apparel designed by young and up and coming
Zimbabwean designers. The company was incorporated on 1 July 2012 with an issued share capital
of 100 000 ordinary shares.

On 1 July 2012 DIC and Zulberg Ltd (‘Zulberg’) (an unrelated third party) each subscribed for 50 000
ordinary shares in Maneo. DIC and Zulberg also entered into a strategic agreement on the same
date, which governs the operations of Maneo. The salient features of the strategic agreement are as
follows:

• Shareholders holding at least 51% of Maneo’s voting rights are required to approve decisions
about which designers to use and at which prices the sourced fashion apparel would be sold by
Maneo. Voting rights are awarded in proportion to ownership of shares in Maneo;

• Fashion apparel sourced by Maneo is purchased by DIC and Zulberg in a ratio of 50 : 50. Maneo
may not sell any fashion apparel to third parties. DIC and Zulberg may sell their share of the fashion
apparel to international retailers for sales outside Zimbabwe.

• Fashion apparel is priced to ensure that the expenses incurred by Maneo are covered. These
include all direct costs associated with sourcing fashion apparel as well as all administrative
expenses of Maneo.

Kengray Ltd

DIC acquired seven million of the ten million issued ordinary shares of Kengray Ltd (‘Kengray’) on 1
July 2009. On that date the non-controlling interest in Kengray had a fair value of $1,6 million. A
bargain purchase gain of $250 000 arose from this business combination.

On 1 July 2009 DIC considered Kengray’s internally generated brand name to have a fair value of
$500 000 with a remaining useful life of six years and no residual value. No deductions are granted
on the brand name for tax purposes. No additional assets, liabilities or contingent liabilities were
identified by DIC on the date of acquisition and the assets, liabilities and contingent liabilities
recognised by Kengray were considered to be fairly valued. On 31 December 2012 DIC sold 6 500
000 ordinary shares in Kengray to an unrelated party. $5 million was received in cash on 31
December 2012 and a further $2 million is receivable in cash on 31 December 2014. DIC’s remaining
5% interest in Kengray had a fair value of $700 000 on 31 December 2012.

Abridged statements of financial position of Kengray: