MEMO

From: Accountant

To:

Senior Accountant

Subject: Treatment of financial Instruments in accordance with IAS 32

Transaction 1

i. IAS 32 requires a financial instrument to be classified as a liability if there is a contractual obligation to deliver cash or another financial assets to another entity.

ii. In the case of the preference shares as they are non-redeemable, there is no obligation to repay the principal.

iii. In the case of the dividends, because of the condition that preference dividend will only be paid if ordinary dividend are paid in relation to the same period, the preference shareholders has no contractual right to a dividend. Instead the distributions to holders of the preference shares are at the discretion of the issuer as Akwa Nig. Ltd. can choose whether or not to pay an ordinary dividend and therefore a preference dividend. Therefore, there is no contractual obligation in relation to the dividend.

iv. As there is no contractual obligation in relation to either dividend or principal, the definition of a financial liability has not been met and the preference shares should be treated as equity and initially recorded at fair value of N40million.

v. The treatment of dividends should be consistent with the classification of the shares and should be charged directly to retained earnings in the statement of changes in equity.

Transaction 2

i. The price of the equipment, a non-current asset is fixed at N5million one year after delivery. In terms of recognition and measurement of the equipment, the N5million price would be discounted back one year to its present value.

ii. The company is paying for the equipment by issuing shares. However, this is outside the scope of IFRS 2-Share Based Payments because the payment is not dependent on the value of its shares, it is fixed at N5million.

iii. This is an example of a contract that will be settled in an equity instruments and is non-derivative for which the entity is or may be obliged to deliver a variable number of equity‟s own equity instrument i.e. it is a Financial Liability.

iv. Therefore, it is a financial liability and initially measured at the present value of the N5million.

v. Subsequently, as it is not measured at fair value through profit or loss (as it is not held for a short-term profit making or a derivative) it should be measured at amortise cost.

vi. As a result, interest will be applied to the discounted amount over the period until payment are recognised in statement of profit or loss with corresponding increase in the financial liability.

Transaction 3

i. Most ordinary shares are treated as equity as they do not contain contractual obligation to deliver cash.

ii. However, in the case of the directors shares, a contractual obligation to deliver cash exists on specific date as the share are redeemable at the end of service contract of the directors. iii. The redemption is not discretionary and Akwa LTD has no right to avoid it. The mandatory of the repayment make the capital a Financial Liability.

iv. The dividend payment are discretionary as they must be ratified at the Annual General Meeting (AGM). Therefore no liability should be recognised for any dividend until it is ratified. When recognised the classification of the dividend should be consistent with that of the shares and therefore, the dividends should be classified as a finance cost rather than as a deduction from retained earnings hence the dividend should be charged to the statement of profit or loss as finance cost.

Conclusion

Hope the above explanation is clear. If you need further explanation do not hesitate to contact me.

Thank you.

Accountant