Specific issues FOREIGN EXCHANGE

Chapter 35 – Joint Ventures Page 454 The presence of a contractual arrangement to share control is the principal factor in determining whether a joint venture relationship exists. Illustration 1 An entity is set up to build a bridge over a river. Once the bridge is built, the entity will be wound up. Ten contractors invest in the equity of the entity. Contractors 1 to 6 own 13 each and contractors 7 to 10 own 5.5 each. There exists a contractual arrangement whereby all the strategic financial and operating decisions relating to the bridge building project have to be taken unanimously by contractors 1 to 3 and 7 to 9. Contractors 1 to 3 and 7 to 9 have joint control over the joint venture entity. Each of them is therefore a venturer in the bridge building entity. Contractors 4 to 6 and 10 are not involved in the contractual arrangement and are therefore only investors in the joint venture. There are exemptions from compliance with IAS 31 where the joint venture investment is classified as ‘held for sale’ in accordance with IFRS 5 Non-current assets held for sale and discontinued operations and should therefore be accounted for in accordance with that standard. Where the venturer is not required to prepare consolidated financial statements under IAS 27 Consolidated and separate financial statements it should treat the joint venture in accordance with IAS 27. In addition, an exemption applies where the venturer is a wholly owned subsidiary or partially owned but the minority interest shareholders have been notified of the intention not to apply the requirements of IAS 31 and they have not objected and the venturer does not have debt or equity instruments traded in a public market nor is in the process of issuing debt or equity in a public market and the venturer’s parent prepares consolidated financial statements that are publicly available and are prepared in accordance with IFRS. [IAS 31.2] 4 The Three Forms of Joint Venture In practical terms there are a number of forms a joint venture investment can take, but IAS 31 identifies only three broad types: jointly controlled operations, jointly controlled assets and jointly controlled entities.

4.1 Jointly controlled operations

In a jointly controlled operation a separate entity is not set up, but the parties to the transaction share the activities that are to be carried out. Effectively, the venturers pool resources and provide expertise to the overall operations. Each venturer will use its own property, plant and equipment in carrying out the activities and will incur its own expenses and liabilities. Each venturer will also be responsible for raising its own finance. The contractual arrangements between the entities which create this form of joint venture investment will normally set out how the revenues and expenses will be shared. The substance of such an arrangement is that each venturer is carrying on its own activities as essentially a separate part of its own business, since there is no separate entity. The accounting for the joint venture should therefore reflect the economic substance of this arrangement by recognising the assets that the venturer controls. The venturer’s own property, plant and equipment that it uses to carry out activities of the jointly controlled operation, any liabilities that it retains obligation for and the expenses that it incurs should be recognised by the entity. Each venturer should also recognise its share of income generated by the jointly controlled operations. Chapter 35 – Joint Ventures Page 455 Recognition of these amounts should be included in the individual entity financial statements of each venturer because they are part of its activities. No further adjustment is therefore required in the preparation of the consolidated financial statements. [IAS 31.15] Illustration 2 An example of a jointly controlled operation is the construction of a new housing estate by a number of independent builders and specialist tradesmen, such as carpenters and plumbers. Each party provides a predetermined amount of labour to the construction and is required to provide the relevant materials and equipment needed to perform the work. Under an agreed contract, each party will receive a specified percentage of the revenue from the sale of the houses. This is an extension of each party’s normal operating activities and should therefore be recorded in their individual books and records as such.

4.2 Jointly controlled assets

A joint venture relationship may be established through the use of jointly controlled assets which are used to generate benefits to be shared by each of the venturers. Such arrangements do not involve the creation of a separate entity and the assets may be jointly owned, although the important attribute of such an arrangement is that the assets in question are jointly controlled. Typically each venturer receives an agreed share of the benefits generated by the operation of the assets and bears an agreed share of the expenses incurred. Each venturer in such an arrangement is again essentially using the assets as part of its normal operating activities and should therefore report them as part of those activities in its individual financial statements. In particular, a venturer should recognise its share of the jointly controlled assets, any liabilities that the entity has an obligation to meet and a share of the liabilities that are jointly incurred. Jointly incurred expenses and a share of the relevant income and expenses that are earned or incurred jointly should also be recognised by each venturer. [IAS 31.21] Illustration 3 A common use of jointly controlled assets is by entities in the oil production industry. Typically, they jointly control and operate an oil pipeline. The benefit of such an arrangement is that only one pipeline is needed, with each venturer using the pipeline to transport its own supply of oil and in return paying a proportion of the running costs of the pipeline i.e. the jointly controlled asset. No additional adjustments are required in the preparation of the consolidated financial statements since the individual entity financial statements of each venturer already reflect the economic reality of the arrangements.

4.3 Jointly controlled entities

The third broad type of joint venture arrangement is a jointly controlled entity. The identifying factor in this arrangement is that a separate legal entity is set up with ownership being shared by the venturers. The separate entity may take a number of forms. It may be an incorporated entity, a corporation or a partnership. The importance of the establishment of a separate entity is that it is able to enter into contracts and raise finance in its own right. As a separate legal entity it will also have to maintain its own accounting records and prepare and present its own financial statements.