FAC2601

LEARNING UNIT 1

INTRODUCTION TO
COMPANY FINANCIAL
STATEMENTS

Financial Accounting
for Companies
CONTENTS
Page
LEARNING UNIT 1: INTRODUCTION TO COMPANY FINANCIAL STATEMENTS ............. 1
1.1 Introduction ...................................................................................................... 4
1.2 Company background ....................................................................................... 4
1.3 History of companies act .................................................................................. 6
1.4 Different reporting frameworks ....................................................................... 7
1.4.1 Full IFRS (International Financial Reporting Standards) ................................... 7
1.4.2 IFRS for SME’s (Small and medium-sized entities) ........................................... 7
1.4.3 GRAP ................................................................................................................. 10
1.5 Annual financial statements ............................................................................. 12
1.6 CA 2025 Competency Framework .................................................................... 14
1.6.1 Professional values and attitudes..................................................................... 14
1.6.2 Acumens ........................................................................................................... 15
1.7 Companies Act Requirements .......................................................................... 18
1.7.1 Capitalisation of profit companies ................................................................... 18
1.7.2 Governance of companies ................................................................................ 19
1.7.3 Application and general requirements regarding enhanced accountability
and transparency .............................................................................................. 20
1.7.4 Transactions (shareholders and directors) ....................................................... 21
1.8 Share transactions ............................................................................................ 22
1.8.1 Introduction ...................................................................................................... 22
1.8.2 Share capital structures .................................................................................... 22
1.8.3 Types of shares ................................................................................................. 23
1.8.4 Issue of capitalization shares ............................................................................ 24
1.8.5 Rights issues and options ................................................................................. 26
1.8.6 Underwriting of share issues ............................................................................ 27
1.8.7 Dividends .......................................................................................................... 28
1.9 Self-reflective exercises .................................................................................... 28
1.9.1 Adopt a professional attitude........................................................................... 28
1.9.2 Relational acumen ............................................................................................ 28

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Learning outcomes
• Learners must have the basic knowledge and background of the theory behind
annual financial statements (as covered in Accounting I). They must also
understand the goal of IFRS.

Assessment criteria

After having studied this learning unit, you should be able to

 record the accounting entries applicable to the issue of shares.
 record the issue of capitalisation shares.
 know the types of companies.
 name the users of annual financial statements.
 understand the background of companies, the Companies Act and IFRS.

Overview

This learning unit will be discussed under the following sections:

1.1 Introduction
1.2 Company background
1.3 History of companies act
1.4 Different reporting frameworks
1.4.1 Full IFRS (International Financial Reporting Standards)
1.4.2 IFRS for SME’s (Small and medium-sized entities)
1.4.3 GRAP
1.5 Annual financial statements
1.6 CA 2025 Competency Framework
1.6.1 Professional values and attitudes
1.6.2 Acumens
1.7 Companies Act Requirements
1.7.1 Capitalisation of profit companies
1.7.2 Governance of companies
1.7.3 Application and general requirements regarding enhanced
accountability and transparency
1.7.4 Transactions (shareholders and directors)
1.8 Share transactions
1.8.1 Introduction
1.8.2 Share capital structures
1.8.3 Types of shares
1.8.4 Issue of capitalization shares
1.8.5 Rights issues and options
1.8.6 Underwriting of share issues
1.8.7 Dividends
1.9 Self-reflective exercises
1.9.1 Adopt a professional attitude
1.9.2 Relational acumen

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 STUDY

Below study material.

1.1 INTRODUCTION
In Accounting I you were introduced to company annual financial statements. You studied
aspects such as the format and layout of a statement of financial position, statement of profit
or loss and other comprehensive income, statement of changes in equity and cash flows. In
Accounting II you will be studying the above aspects in greater detail and you will be acquiring
knowledge of International Financial Reporting Standards (hereafter called IFRS). IFRS are
being developed by the International Accountants Standards Board (IASB) and will form part of
your study material in future.

What is IFRS?
IFRS is a set of international accounting standards stating how particular types of
transactions and other events should be recognized, measured and reported in annual
financial statements.

Goal of IFRS?
From your Accounting I studies you’ll remember that the goal of IFRS is to provide a global
framework for how public companies prepare and disclose their annual financial
statements. IFRS provides general guidance for the preparation of annual financial
statements, rather than setting rules for industry-specific reporting.

Having international accounting standards is especially important for large companies that have
subsidiaries in different countries. Adopting a single set of world-wide standards will simplify
accounting procedures by allowing a company to use one reporting language throughout. A
single standard will also provide investors and auditors with a cohesive view of finances.

1.2 COMPANY BACKGROUND

In general, a company can be described as an association between persons that work together
with the aim to make a profit. A company as an entity is a legal person which is incorporated
in terms of the Companies Act 71 of 2008. The entity exists independently from its owners,
the shareholders.

Companies as a form of entity were established in order to fulfil the following needs:
• the acquisition of more capital, as it is normally not possible in a sole entity
• to ensure the continued existence of the company
• to provide an easy way to exchange owners
• to provide a procedure to limit the financial liability of the owners

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A company can have a multitude of shareholders (e.g. listed company) and it is impractical to
open a capital account for each shareholder. To solve this problem, the capital of a company
is divided into small units, called shares (See the section “share transactions” below). Each
shareholder shares in the profits of the entity in relation to the value of his or her shares.
Since the shares of a company are transferable, shareholders change continually, without
threatening the company’s continuance.

A share certificate serves as evidence of a person’s interest in a company. Share certificates are
negotiable documents and the shareholder has the power to sell all his or her shares or to
purchase additional shares. Each shareholder’s interest and rights to vote are determined by the
number of shares he or she owns. The right to vote gives the shareholder the voice to appoint
directors and determines the objectives of the company.

A company is formed by its founders. The establishment of a company is regulated by the

provisions of the Companies Act 71 of 2008.

A company is incorporated by the lodging of the following main forms:

• Notice of incorporation
• Memorandum of incorporation (MOI)

The MOI is the most important document governing the company. The Act imposes certain
specific requirements on the content of a Memorandum of incorporation (MOI) to protect the
interest of shareholders in the company, and provides for a number of default company rules,
which companies may accept or alter as they wish, as long as they are in line with the
Companies Act.

A company is deemed to be a juristic person from the date and time that its incorporation is
registered.

The following types of companies may be formed in South Africa:

Non-profit company

Generally, have a purpose relating to a public benefit, cultural or social activities and income
and property are not distributable to its members, directors or officers.

Profit company

To provide financial gain for its shareholders and it includes:

. State-owned company

Listed as a public entity, or owned by a municipality

. Private company

Profit company that is not a public, personal liability or state-owned company and
memorandum of incorporation prohibits it from offering any securities to the public and
restricts transfer of those securities.

. Personal liability company

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Meets criteria for a private company and memorandum of incorporation indicates that it is a
personal liability company, meaning all current and past directors are liable for any debts.

. Public company

A profit company that is not one of the above three, allowing public to buy shares and normally
listed on the Johannesburg Stock Exchange (JSE).

Incorporating a company requires costs such as registration fees and related legal costs. All
these costs are described collectively as “preliminary expenses”. Preliminary expenses are
debited to the “preliminary expenses” account.

1.3 HISTORY OF THE COMPANIES ACT

The Companies Act 61 of 1973, as amended, came into being after the Commission of
Enquiry into the Companies Act tabled the Supplementary Report and Draft Bill in
Parliament on 1 June 1972. The commission, which was appointed on 14 October 1963
under the chairmanship of Mr Justice J van Wyk de Vries, operated chiefly on a temporary
basis.

The principal report of the commission dated 15 April 1970, which deals with principles, new
concepts and important amendments, was tabled in Parliament on 17 September 1970 and
formed the basis for the Draft Companies Bill and eventually for the Companies Act of 1973.

The terms of reference of the Commission of Enquiry into the Companies Act were not only
to report on the various aspects of company law, but also “to submit a draft bill in order to
implement any recommendations made for the amendment of the present Act” (our
translation). During the 60 years that intervened since the Transvaal Companies Act was
passed in 1909 – an act that was largely ratified as the Companies Act of 1926 – numerous
amendments were made without the Act ever having been consolidated. The members of
the commission decided that the Act simply did not lend itself to further amendment and
set themselves the task of drafting the draft consolidated companies bill. The Consolidated
Companies Act was finally approved by Parliament in 1973 and was given the title of the
Companies Act 61 of 1973. This act was replaced by new Companies Act 71 of 2008.

The Companies Amendment Bill (B40—2010) was tabled in Parliament on 9 November 2010. The
Bill was published in the Government Gazette for public comment and public hearings were
held on 30 November and 1 December 2010. The Bill proposed the amendment of the
Companies Act 71 of 2008 to correct errors, legal-technical and grammatical issues. The
Companies Amendment Bill was approved on 10 March 2011 by the Portfolio Committee on
Trade and Industry.

The new Companies Act was signed by the President on 8 April 2009 and tabled in Gazette
No. 32121 (Notice No 421). This Act is called the Companies Act 71 of 2008.

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1.4 DIFFERENT REPORTING FRAMEWORKS

1.4.1 Full IFRS (International Financial Reporting Standards):

The International Financial Reporting Standards (IFRS) are accounting standards that are
issued by the International Accounting Standards Board (IASB) with the objective of
providing a common accounting language to increase transparency in the presentation of
financial information.

The IASB wanted to create “understandable and enforceable global accounting standards
that require high quality, transparent and comparable information in financial statements
and other financial reporting to help participants in the various capital markets of the world
and other users of the information to make economic decisions.” So they invented an
international accounting standard, usable all over the world and since the year 2000, the
European Commission made these standards with the “endorsement practice” a legal right
in the European Union (IASB 2009). It consists of the standards themselves (the IFRS and the
IAS), the interpretations (SIC and IFRIC) to the standards additionally and the framework.

The objective of IFRS is to ensure that an entity’s IFRS financial statements contains high
quality of information that:

• Is transparent for users and comparable over all periods presented;

• Provides a suitable starting point for accounting in accordance with International
Financial Reporting Standards (IFRS); and
• Can be generated at a cost that does not exceed the benefits

It is mandatory for all entities that have public accountability to follow full IFRS.

IFRS are mandatory pronouncement and comprise:

• IFRS;
• IAS (International accounting standards); and
• Interpretations developed by the IFRS Interpretation Committee (IFRIC) or its
predecessor body, the Standing Interpretations Committee (SIC Interpretation).

1.4.2 IFRS for SME’s (Small and Medium-sized entities):

There have been many considerations about the necessity of a reduced form of the full IFRS.
Because for a certain group of entities, most regulations are not needed. Or it is a huge
financial effort to provide this information to the receiver of the statements. So eventually,
the IASB conceived a new standard especially for small and medium-sized entities and
released it in July 2009. They have worked on it for more than five years and the result is a
document with about 230 pages, detached from the full IFRS.

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In July 2009 the International Accounting Standards Board (IASB) published the International
Financial Reporting Standard (IFRS) for Small and Medium-sized Entities (SMEs). SMEs are
estimated to represent well over 95 per cent of all companies in both developed and
developing countries. The standard was developed to reduce the complexities and burden
associated with applying IFRS whilst fulfilling the needs of the users of SME Financial
Statements.

IFRS for SMEs may be used by those entities that are owner managed and has NO PUBLIC
ACCOUNTABILITY.

Public Accountability is:

• its debt or equity instruments are traded in a public market or it is in the process of
issuing such instruments for trading in a public market (a domestic or foreign stock
exchange or an over-the counter market, including local and regional markets)
regardless of the size of the entity, or
• it holds assets in a fiduciary capacity for a broad group of outsiders as one of its
primary businesses. Most banks, credit unions, insurance companies, securities
brokers/dealers, mutual funds and investment banks would meet this second criterion.

So, the IASB classifies them as entities, “that do not have public accountability and publish
general purpose financial statements for external users only.” This means, that if the
financial statements of an entity follows a specific intention (for example for taxation), they
are not supposed to use IFRS for SMEs, because the statements are not according to the
standard. Explicitly excluded are entities having debt or equity instruments in a public market
or in the process of issuing such instruments for trading in a public market. But also, entities
holding assets in a fiduciary capacity for a broad group of outsiders as one of its primary
businesses. Characteristic examples are banks, credit unions, insurance companies or
investment banks.

Example 1: Can the following entity apply IFRS for SME’s?

Question:
• Fashion retailers is an unlisted company primarily involved in the clothing retail
industry. Fashion retailers intends expanding its operations and issues listed bonds on
the Bond Exchange of South Africa (BESA).

Solution:
• Applying the definition of public accountability above, as Fashion Retailers has issued
bonds on the BESA, the bonds are traded in a public market. This means fashion
retailers does have public accountability. Fashion Retailers would therefore be
required to provide more extensive financial information to its users would be required
to apply full IFRS and not IFRS for SMEs.

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All entities apart from public companies, state-owned companies and certain non-profit
companies are allowed to apply IFRS for SMEs

FAC 2601 – Full IFRS is being used as the reporting framework

The following table indicates the use of the applicable Financial Reporting Standard:

Company Financial Reporting Standard

State owned companies Full IFRS, but in the case of any conflict
with any requirements in terms of the
Public Finance Management Act, or other
applicable national legislation, the latter
prevails
Public companies listed on an exchange Full IFRS, but in the case of any conflict
with the applicable listing requirements of
the relevant exchange, the latter prevails
Public companies not listed on an Full IFRS or IFRS for SMEs
exchange
Profit companies, other than state owned Full IFRS or IFRS for SMEs
or public companies, whose public
interest score for the particular financial
year is at least 350.
Profit companies, other than state owned Full IFRS or IFRS for SMEs
or public companies: (a) whose public
interest score for the particular financial
year is at least 100 but less than 350; or
(b) whose public interest score for the
particular financial year is less than 100,
and whose statements are independently
compiled.
Profit companies, other than state owned There is no prescribed Financial Reporting
or public companies, whose public Standard – it is determine by the company
interest score for the particular financial
year is less than 100, and whose
statements are internally compiled.
Non-profit companies that are required in IFRS, but in the case of any conflict with
terms of regulation 28 (2)(b) to have their any requirements in terms of the Public
annual financial statements audited Finance Management Act, or other
applicable national legislation, the latter
prevails
Non-profit companies, other than those Full IFRS or IFRS for SMEs
contemplated in the first row above,
whose public interest score for the
particular financial year is at least 350.

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 Non-profit companies, other than those Full IFRS or IFRS for SMEs
contemplated in the first row above–– (a)
whose public interest score for the
particular financial year is at least 100,
but less than 350; or (b) whose public
interest score for the particular financial
year is less than 100, and whose financial
statements are independently compiled.
Non-profit companies, other than those There is no prescribed Financial Reporting
contemplated in the first row above, Standard – it is determine by the company
whose public interest score for the
particular financial year is less than 100,
and whose financial statements are
internally compiled.

What are PI Scores:

A score used to determine what financial reporting framework can be used.

The Public Interest Score (PIS) is calculated as:

• 1 point for each employee or the average number of employees throughout the year;
• 1 point per million rand of third-party liability. This is the money owed in terms of
loans, debentures and other financing;
• 1 point for each million rand of turnover during the financial year. If the turnover is
half a million-rand score ½ point.
• 1 point for every individual who, at the end of the year is known to have a direct or
indirect beneficial interest in the company. This will include shareholders, beneficiaries
of a trust where a trust is a shareholder and other stakeholders.

1.4.3 GRAP:

Generally Recognized Accounting Practice, also known as GRAP, is a set of fundamental

concepts that serve as accounting process guidelines for South African-based companies.
These guidelines laid down by the Accounting Standards Board (ASB) ensure that the public
sector agencies record their financial activities accurately and consistently.

The Public Finance Management Act or PFMA is the act on which the accounting standards
board issues the accounting standards (GRAP) in South Africa. GRAP ensures that
accountants all across South Africa follow a standard process to record financial transactions.

This ensures transparency and consistency in the handling of funds by public entities.
Therefore, it is important that all state-owned entities in South Africa strictly comply with
the GRAP.

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To understand how it affects state-owned companies, first, you need to understand what a
state-owned company is.

A State-owned company is an enterprise which is:

● Listed as a public entity under the Public Finance Management Act (PFMA), 1999; or
● Owned by a municipality under the Local Government Municipal Systems Act, 2000,
and is otherwise similar to an enterprise as mentioned above.

The ASB determines that the Standards of GRAP to be used for:

• Departments (including national, provincial and government components)

• Public entities
• Trading entities (as defined in the PFMA)
• Constitutional institutions;
• Municipalities and boards, commissions, companies, corporations, funds or other
entities under the ownership control of a municipality
• Parliament and provincial legislatures.

The ASB has approved the application of IFRS for:

• Public entities that meet the criteria outlined in the Directive on the Selection of an
Appropriate Reporting Framework for Public Entities; and
• Entities under the ownership control of any of these standards.

Standards with GRAP with IFRS equivalents:

Standard of GRAP IFRS (Full)

The Conceptual Framework for General
Purpose Financial Reporting
GRAP 1 - Presentation of Financial
Statements
GRAP 2 - Cash Flow Statements
GRAP 3 - Accounting Policies, Changes in
Accounting Estimates and Errors
GRAP 4 - The Effects of Changes in Foreign
Exchange Rates
GRAP 5 - Borrowing Costs
GRP 7 - Investments in Associates
GRAP 8 - Interest in Joint Ventures
The Conceptual Framework for General
Purpose Financial Reporting
IAS 1 - Presentation of Financial Statements
IAS 7 - Statement of Cash Flows
IAS 8 - Accounting Policies, Changes in
Accounting Estimates and Errors
IAS 21 - The Effects of Changes in Foreign
Exchange Rates
IAS 23 - Borrowing Costs
IAS 28 - Investments in Associates and Joint
Ventures
IFRS 11 - Joint Arrangements

11

GRAP 9 - Revenue from Exchange
Transactions
GRAP 10 - Financial Reporting in
Hyperinflationary Economies
GRAP 11 - Construction Contracts
GRAP 12 - Inventories
GRAP 13 - Leases
GRAP 14 - Events after the reporting date
GRAP 16 - Property, Plant and Equipment
GRAP 17 - Investment Property
GRAP 18 - Segment Reporting
GRAP 19 - Provisions, Contingent
Liabilities and Contingent Assets
GRAP 20 - Related Party
Disclosures
GRAP 25 - Employee Benefits
GRAP 26 - Impairment of Cash-generating
assets
GRAP 27 - Agriculture
GRAP 31 - Intangible Assets
GRAP 32 - Service Concession
Arrangements: Grantor
GRAP 100 - Discontinued Operations
GRAP 104 - Financial Instruments
1.5 ANNUAL FINANCIAL STATEMENTS
Companies are obliged to draw up annual financial statements, using ledger accounts, cash
receipts and payment journals and the Companies Act requires that accurate and
complete accounting records are kept.
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IAS 28 - Investments in Associates and Joint
Ventures
IFRS 15 - Revenue from Contracts with
Customers
IAS 29 - Financial Reporting in
Hyperinflationary Economies
IAS 11 - Construction Contracts
IAS 2 - Inventories
IFRS 16 - Leases
IAS 10 - Events after the Reporting Period
IAS 16 - Property, Plant and Equipment
IAS 40 - Investment Property
IFRS 8 - Operating Segments
IAS 37 - Provisions, Contingent
Liabilities and Contingent Assets
IAS 24 - Related Party Disclosures
IAS 19 - Employee Benefits
IAS 36 - Impairment of Assets
IAS 41 - Agriculture
IAS 38 - Intangible Assets
IFRIC 12 - Service Concession Arrangements
IFRS 5 - Non-current Assets Held for Sale
and discontinued Operations
IFRS 7 - Financial Instruments:
Disclosures
IFRS 9 - Financial Instruments
IAS 32 - Financial Instruments:
Presentation
IAS 39 - Financial Instruments:
Recognition and Measurement
(Superseded by IFRS 9 where IFRS 9 is
applied)
Annual financial statements are a structured representation of the financial position and
financial performance of an entity by fairly presenting the state of affairs and business of the
company, by explaining all the transactions that took place. The objective of annual financial
statements is to provide information about the financial position, financial performance and
cash flows of an entity that is useful to a wide range of users.

Annual financial statements provide information about an entity’s assets, liabilities, equity,
income and expenses, including gains and losses, contributions by and distributions to owners
and cash flows. Users use this information to base realistic business and economic decisions.
The numerous groups of users who rely for information on these statements of financial
reporting include:

• owners (shareholders)
• potential investors
• management
• borrowers
• suppliers
• creditors
• tax authorities
• bankers
• employers

For users, the annual financial statements of a company form the basis for conclusions and
eventual decision-making. To help the user draw sensible conclusions from his or her
investigation and analysis of these statements, the Companies Act 71 of 2008 contains certain
specific requirements regarding the disclosure of information in the annual financial statements
of companies.

The statements should set out the date on which they were produced, the accounting period
to which they apply and provide specific information relating to the audit of the financial
statements. Annual financial statements should be prepared within six months after financial
year end.

According to the Act, a company’s annual financial statements have to be drawn up in

accordance with International Financial Reporting Standards (IFRS) or IFRS for small and
medium-sized enterprises (SME), depending on the category of the company. In our module
the focus will be on companies that needs to adopt the full International Financial Reporting
Standards (IFRS’s) and not the IFRS for Small and Medium-sized entities (IFRS for SME’s), which is
a scaled down version of complete IFRS’s and intended for small and medium-sized entities that
do not have public accountability, but have to prepare and publish general purpose financial
statements for its external users.

Although the sections of the Companies Act of 2008 and Companies Regulations are very
important for your studies, you are not expected to read them all. In order to cover the
ground thoroughly, we shall, however, refer to them from time to time in the study guide.

Company annual financial statements are drafted, published and submitted to the annual
general meeting of shareholders. These statements are therefore drafted mainly for and
directed to the shareholders.
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These statements must reflect the state of affairs of the company and its business at the end
of the financial year in question as well as the profit or loss for that financial year.

Annual financial statements must comply with four qualitative requirements (This will be
discussed in detail in Learning Unit 2 of this study guide).

It is clear that these statements must be drafted in accordance with pre-existing guidelines and
legislation. After you have completed your study of this study guide, you will be able to draft
such statements yourself, using our guidelines.

1.6 CA2025 COMPETENCY FRAMEWORK

1.6.1 Profession values and attitudes:

1. Ethics, values and attitudes:

Personal ethics

• Personal ethics refers to a personal value system applied by an individual to decision-

making, conduct and interaction between self and others.

Business ethics

• Business ethics refers to the ethical principles and values applied by an entity, in
making decisions, conduct and relationship between the enterprise and all its
stakeholders as well as the society (King 1V).

Professional ethics

• Professional ethics refers to the fundamental ethical principles and values applied by
a professional CA to decision making, conduct and the relationship between the
professional, its stakeholders and society.

2. Citizenship, values and attitudes:

Personal citizenship

• Personal citizenship refers to the rights and responsibilities that individuals must have
towards the communities they belong to.

Professional citizenship

• Professional citizenship refers to the rights and responsibilities that professionals must
have towards the communities they belong to.

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3. Lifelong learning, values and attitudes:

Self-development

• Self-development refers to the planning and management of personal development

and an appreciation of how personal strengths and weaknesses may impact work,
learning and goal attainment.

Adaptive mind set and agility

• Adaptive mind set and agility means taking initiative to improve performance by
reviewing and reflecting on one’s performance.

1.6.2 Acumens:

1. Decision-making acumen

Analytical/critical thinking

• To research, investigate, critically analyse, reflect and apply professional judgement to

the evaluation of data and information from a variety of sources and perspectives.
Integrated thinking

• This is the decision-making approach for complex problems, based on finding new
creative solutions rather than merely choosing the best solution from a list of
alternatives.

Problem solving

• To collate and compare information from a variety of sources to correctly define a

problem, assess alternative solutions against decision criteria and making the optimal
decision.

Judgement and decision making

• The ability to make considered and effective decisions, come to sensible conclusions,
perceive and distinguish relationships, understand situations and form objective
opinions.

Professional scepticism

• Having a questioning mind. Being alert to anything that may indicate misstatement due
to error or fraud. Critically assessing audit evidence.

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2. Relational acumen:

Communication skills

• Effectively convey information and ideas to individuals and groups in a variety of

situations in a focused way using verbal and non-verbal techniques and skills.

Leadership skills

• Work with others and manage and lead teams.

People skills

• People skills are patterns of behaviour and behavioural interactions. Among people, it
is an umbrella term for skills under three related set of abilities: personal effectiveness,
interaction skills, and intercession skills.

Relationship-building skills

• Build authentic relationships and effective collaboration across a wide range of teams
and stakeholders.
Teamwork

• Interrelated abilities that let you work effectively in an organised group. Teamwork
happens when people cooperate and use their individual skills to achieve common
goals.

Self-management

• Plan and manage personal development and appreciate how personal strengths and
weaknesses may impact work, learning and goal attainment.

Managing others

• Work with others and manage and lead teams.

Emotional intelligence

• Establish and sustain trusting relationships based on self-awareness, sensitivity to the

situation, culture and people involved.

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3. Digital acumen:

Computational thinking

• Computational thinking is a set of problem-solving methods that involve expressing

problems and their solutions in ways that a computer could also execute.

Data knowledge and strategy

• Understanding the types of financial and non-financial information available within an

entity, identifying possible relationships between data sets, requesting the required
data (including normalisation (clean-up) thereof), understanding the security and
privacy risks associated with the use, storage and transfer of data, and understanding
the importance of the implementation of sufficient data protection policies and
controls. Advanced data management should be performed by expert data scientists
and/or IT experts.

Data analytics

• Performing basic data modelling or where necessary requesting advanced data

modelling by experts, and then interpreting the results, concluding and reporting/
presenting/ communicating as applicable. The W2 competency comprises both a
technical computer skill and the ability to apply the underlying technical competency.

Automation

• Automation is the technology by which a process or procedure is performed with

minimal human assistance.

New developments and protocols

• Artificial intelligence (AI), block chain, Internet of Things etc.

Cyber security

• Cyber security is the practice of defending computers and servers, mobile devices,
electronic systems, networks and data from malicious attacks.

User competencies

• Use technology ethically as an enabler to optimise decision making and to promote

business efficiencies and controls.

At the end of the tutorial letter are self-reflective exercises to enable you to understand the
concepts outlined in 3.3.

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1.7 COMPANIES ACT REQUIREMENTS

1.7.1 Capitalisation of profit companies:

Company act sections and regulations (35 – 43; 46 – 48) Regulations 31 (3) & (5)

1. Share transactions

Section 35 of the Companies Act 2008 discusses the issue where shares can no longer be
issued with a nominal value or par value. For new classes of shares there will no longer be a
separation the share capital and share premium accounts.

Regulation 31 provides further clarification on the position regarding existing classes of par
value shares. In summary:

• No new classes of par value shares may be authorised;

• If there is an existing class of par value shares of which no shares are in issue, no shares
may be issued from that class until the shares have been converted to no par value
shares;
• If there is an existing class of par value shares of which some shares have been issued:

o the number of shares may not be increased, but

o existing authorised par value shares may be issued.

Section 40 (1) discusses the issue of the issue price of shares. The board may issue shares
only for an ‘adequate consideration’. In other words, the board must determine the
consideration for which shares must be issued. Section 40 (3) the determination by the board
on the adequacy of the consideration may only be challenged on the basis that the directors
did not conduct themselves in accordance with the standards of directors’ conduct
contemplated in Section 76. This therefore, gives the directors substantial discretion to
determine the appropriate share price for any issue of shares. The directors will therefore
have to take account of all relevant factors, including but not limited to the valuation of the
company.

2. Share incentive schemes

Section 41(d) determines that where the issue of shares, securities or rights is pursuant to
an employee share scheme that satisfies the requirements of S.97 (i.e. a compliance officer
has been appointed to take responsibility for the above duties) approval by special resolution
is not required for the issue of shares, securities or rights. Note that existing share schemes
by the new definition of ‘employee share schemes’ which appears to be limited to the issue
of shares or granting of options, but which no longer requires the use of a trust.

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3. Rights of shareholders

If the voting power of the class of shares that are issued or issuable as a result of the
transaction or series of integrated transactions will be equal to or exceed 30 per cent of the
voting power of all the shares of that class held by shareholders immediately before the
transaction or series of transactions, this will require a special resolution by the shareholders
as per section 41 (3) of the Companies Act.

1. Dividends

Section 46 requires that any distribution by a company to shareholders (including dividend

distributions and the buy-back of shares) will be subject to the solvency and liquidity test.

1.7.2 Governance of companies:

Companies act (57 – 65) & regulations 38

1. Prescribed officers

In terms of Regulation 38 a person is a prescribed officer of a company if ‘despite not being

a director of that company’ that person:

• Exercises general executive management of the whole, or significant portion, of the

business and activities of the company; or
• Regularly participates to a material degree in the exercise of general executive control
over management and the whole, or a significant portion, of the business and activities
of the company.

2. Shareholder meetings:

Section 57 relates to any profit company (including public companies but excluding state-
owned companies) that has only one shareholder is not subject to Section 59 to 65 of the
Act. The provisions relate to record dates, round robin resolutions, shareholders’ meetings,
conduct of meetings, quorums and adjournments as well as shareholders’ resolutions
generally do not apply to companies with one shareholder.

3. Shareholder resolutions:

Section 65 provides an opportunity for companies to apply different voting thresholds for
different decisions. A distinction is to be made between ordinary and special resolutions. A
company may provide that different matters will require different levels of support for them
to be passed.

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The Act details that the support of more than 50% voting rights exercised on an ordinary
resolution. A special resolution will require at least 75% of the voting rights on the resolution.
However, the MOI may provide for a higher than 50% voting rights for ordinary resolutions
or a higher or lower than 75% voting rights for a special resolution as long as certain
thresholds are met.

1.7.3 Application and general requirements regarding enhanced accountability and

transparency:

Companies act 84 – 85 & Regulation 26 – 28

1. Application of enhanced accountability:

Chapter 3 (Companies Act 84, Annexure C and Annexure D) deals with the appointment of
an auditor, company secretary and audit committee. Not all the issues in Chapter 3 are
applicable to all companies.

The following companies have to comply with all the requirements of Chapter 3, i.e. the
requirements pertaining to audit, audit committees and company secretaries:

• Public companies, and

• State-owned companies

Private, personal liability and non-profit companies have to comply with the requirements
of Chapter 3 which pertains to audit committees and company secretaries to the extent
required in the MOIs of these companies.

To ascertain whether a company requires an audit or review, and which financial reporting
standard should be applied, the company should calculate its public interest score (PIS) for
the financial year.

A company’s (company level and not consolidation level) public interest score is calculated
as follows (Regulation 26(2)):

• A number of points equal to the average number of employees of the company during
the financial year;
• One point for every R1million (or portion thereof) in third party liability of the company
at the financial year end;
• One point for every R1 million (or portion thereof) in turnover during the financial year;
and
• One point for every individual who, at the end of the financial year, is known by the
company to directly or indirectly have a beneficial interest in any of the company’s
issued securities.

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Regulation 28 all the subsidiaries of listed companies, meeting the definition of a company
in the Companies Act, must apply the Public Interest Score and if they qualify for the audit
they will have to be audited.

1.7.4 Transactions (shareholders and directors):

1. Financial assistance for subscribing for shares (Sec 44)

Section 44 of the Act allows that the company allows financial assistance for the subscription
of securities but contains very onerous requirements.

Except unless stated otherwise in the MOI, the company may provide assistance in the form
of a loan, guarantee, provision of security or other form for the subscription of the
company’s securities. Section 44 does not apply to Companies whose primary business is the
lending of money.

Despite any provisions in the MOI, a board of directors must not authorise and form of
financial assistance to another party to purchase shares in the company unless the following
provisions are met:

• The financial assistance must be pursuant to an employee share scheme (satisfying the
requirements of S97) or a special resolution adopted within the previous two years,
and
• The board of directors must have decided that:
▪ The company will meet the liquidity and solvency test immediately after the rendition
of financial assistance,
▪ The terms under which the financial assistance is proposed to be given are fair and
reasonable to the company.

2. Loans or other financial assistance to directors (Sec 45)

In terms of this section, unless the company’s memorandum of incorporation provides

otherwise, the board may authorise direct or indirect financial assistance to the following
parties:

• A director and prescribed officer of the company or of a related or inter-related

company;
• A related or inter-related company or corporation;
• A member of a related or inter-related corporation; or
• A person related to any of the above parties.

Before the Board may authorise any financial assistance, it has to ensure all statutory
requirements are met. Despite any provision of a company’s MOI to the contrary, the board
may not authorise any financial assistance in S45, unless:

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The financial assistance is:

▪ Provided pursuant to an employee share scheme (that satisfies the requirements of

S97); or
▪ Provided in line with a special resolution (which must be passed prior to rendering of
the financial assistance) of the shareholders adopted within the previous two years,
which approved such assistance either for the specific recipient or generally for a
category of potential recipients; and

The board ensured that:

▪ The company will satisfy the solvency and liquidity test immediately after providing the
financial assistance; and
▪ The terms under which the financial assistance is proposed to be given are fair and
reasonable to the company.

1.8 SHARE TRANSACTIONS

1.8.1 Introduction
Before we can continue our account of the drafting of the annual financial statements of a
company, there are certain matters regarding the share capital of companies that we must
discuss in more detail.

Since share capital represents an important item on the statement of financial position of any
company, the procedure applicable to any amendment to share capital is prescribed by the
Companies Act 71 of 2008. It is important that you should be familiar with the legal
requirements.

1.8.2 Share capital structures

Before we proceed, we need to revise the concepts discussed in Accounting I.

Capital contributed by the shareholders of a company is known as share capital. The

maximum number of shares and the classes of shares a company is authorised to issue, as set
out in the Memorandum of Incorporation, is known as the authorised share capital. A company
is not obliged to issue all the authorised share capital. The share capital that the company does
issue, is known as the issued share capital.

EXAMPLE 1
The disclosure of share capital:
R
Authorised share capital
100 000 Ordinary shares 100 000
Issued share capital
80 000 Ordinary shares 80 000

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Share capital

Please note: According to the Companies Act 71 of 2008, shares no longer have nominal
values. Consequently, shares cannot be issued at a premium any more. Share
premium and stated capital are not applicable anymore.

EXAMPLE 2
ABC Ltd issues 1 000 ordinary shares at R1,80 per share.
The journal entry in the financial records will be recorded as follows:
Dr Cr
Journal entry R R
Bank (1 000 x R1,80) 1 800
Share capital (1 000 x R1,80) 1 800

1.8.3 Types of shares

Ordinary shares (Equity shareholders)
Ordinary shares are the most common type of shares. Ordinary shares represent equity
ownership in a company and give you full voting rights at annual general meetings as well
as dividends (should the company pay these) and allow you to benefit from capital growth
should the company do well.

Ordinary shares do not bear a fixed dividend and the payment of dividends on ordinary
shares is considered only after provision has been made for preference dividends.
Depending on the availability of profits, there is no limit to the share of the profits of a
company that can be apportioned to ordinary shares. This is, however, subject to the
dividend that is recommended and approved for payment. Dividends are discussed later in
this learning unit.

Preference shares
Preference shares are instruments that have debt (fixed dividends) and equity (capital
appreciation) characteristics. Preference shareholders have a higher claim on assets
(repayment of capital if company is wound up) and earnings (dividends) than ordinary
shareholders. Preference shareholders are paid fixed-rate dividends before dividends are paid
to ordinary shareholders.

In the event of a company bankruptcy, preference share shareholders have a right to be paid
company assets first. Preference shares typically pay a fixed dividend, whereas ordinary
shares do not. Unlike ordinary shareholders, preference share shareholders usually do not
have voting rights.

Preference shares may be issued with various rights. In classifying a preferred share as a
liability or equity, an entity assesses the particular rights attaching to the share to determine
whether or not it exhibits the fundamental characteristic of a financial liability.

23
There are four types of preference shares: cumulative preferred, for which dividends must be
paid, including skipped dividends; non-cumulative preferred, for which skipped dividends are
not included; participating preferred, which give the holder dividends plus extra earnings
based on certain conditions; and convertible, which can be exchanged for a specified number
of ordinary shares.

When preference shares are non-redeemable, the appropriate classification is determined by

the other rights that may attach to them. When distributions to holders of the preference shares
are at the discretion of the issuer, the shares are equity instruments.

Cumulative preference shares

This class of preference shares differs slightly from ordinary preference shares in that the fixed
preferential dividend accumulates if it is not paid out annually. A company is therefore obliged
to pay all cumulative preference shares that are in arrears as soon as sufficient funds become
available. Cumulative preference dividends not declared or paid should be disclosed.

A cumulative preference shareholder retains his or her right to dividends from year to year,
even if no dividends are declared. Therefore, when the company has sufficient distributable
reserves and cash flow available to declare a dividend, arrear and current cumulative
preference dividends have first to be paid in full before ordinary preference dividends and
then dividends on ordinary share capital can be paid.

Redeemable preference shares

A preference share that provides for redemption on a specific date or at the option of the
holder meets the definition of a financial liability if the issuer has an obligation to transfer
financial assets to the holder of the share. An option of the issuer to redeem the share does
not satisfy the definition of a financial liability because the issuer does not have a present
obligation to transfer financial assets to the shareholders. Redemption of the shares is solely
at the discretion of the issuer.

Preference shares with other rights might include the following, but do not form part of this
module:
• convertible preference shares
• participating preference shares

1.8.4 Issue of capitalisation shares

Occasionally, companies build up large reserves from profits. For one reason or another, it may
not be desirable to distribute these reserves in the form of dividends, since this could
adversely affect the cash position of the company. To enable the shareholders to derive some
tangible benefits from these reserves, the company may decide to capitalise these reserves
and distribute them among the shareholders in the form of capitalisation shares. No cash is
paid out, but each shareholder receives his or her rightful share of the reserves in the form of
capitalisation shares.

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A capitalisation issue is frequently also referred to as a bonus issue, since no payment is
received from shareholders for an issue of this kind. The shares are issued in the same
proportion as the existing shareholding and are merely a book entry which converts the
reserves into share capital.

The number of shares held will increase, but the total value of the share portfolio will remain
the same. In other words, the value per share declines, whilst the total value of the share
portfolio remains constant.

The only entry that the investor will make in its accounting records is to increase the
number shares held and to reduce the value per share.

In issuing these shares, the issuer will convert reserves into share capital. The journal entries
when capitalisation shares are issued:

Debit the retained earnings account with the amount of the capitalisation.
Credit the share capital account.

EXAMPLE 3
Capitalisation shares issued
The following balances were taken from the books of XYZ Ltd on 31 December 19.0:
R
Issued ordinary share capital (R1 shares) 150 000
Retained earnings 160 000

On 1 January 19.1, the directors decided to make a capitalisation issue at R1 of one share for
every three shares previously issued, with the minimum effect on distributable reserves.

Number of shares in issue 150 000/3 = 50 000 shares to be issued.

Dr Cr
Journal entry R R
Retained earnings 50 000
Issued ordinary share capital 50 000
Capitalisation issue of one share for every three shares held

LECTURER’S COMMENT
Capitalisation shares may be issued by utilising the following reserve:
Retained earnings.

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1.8.5 Rights issues and options
One of the ways in which a company can raise cash funds is to have a rights issue. In terms of
this rights issue, rights/options to new shares are offered to existing shareholders based on their
existing shareholdings. To ensure that the options/rights to acquire new shares are exercised
by existing shareholders, the issue price of the new shares is usually set at a price below the
current market price. New shares obtained at the lower price can normally be sold at a higher
price just after they have been acquired, and the existing shareholder can thus make a quick
profit. Alternatively, existing shareholders acquiring these “rights”, can, should they not wish
to acquire additional shares in the issuing company, sell these rights to other investors and may
thus also make a further profit. By doing this, the issuing company also expands its shareholder
base.

The issue price of new shares in respect of a rights issue should be carefully determined. It
should be set as high as possible so that the minimum number of shares will be required to
be issued to raise the cash needed, but nonetheless it should be as low as possible to ensure
that the shareholders will exercise their rights acquired and convert these rights/ options into
new shares.

Since new shares are offered to existing shareholders based on existing shareholdings, these
shareholders obtain the right to subscribe for a certain number of shares. When these new
shares are subscribed for, this right is exercised – hence the description given to this type of
share issue, a rights issue.

The procedure in respect of a rights issue is as follows:

• The company announces that it intends to have a rights issue.
• The rights issue then takes place, which means that the rights certificates are issued to
existing shareholders.
• Following the issue of the rights certificates, a right with a value separated from the
shares which produced that right usually exists and it is traded separately on the
securities exchange.
• The shareholder can then do the following:
– exercise the right by paying the rights issue price and acquire new shares at the
lower than market price, as stipulated in the rights issue, or

– sell the right to a member of the public, who can then acquire shares in the company
by converting the rights into shares subject to the conditions of this rights issue.

Before the rights certificates are issued, shares are traded cum rights (that means that the
share and the right are inseparable). This cum rights value of the shares that the
shareholder held on the date of the announcement is divided into a rights (option) value and
an ex-rights share value on the date on which the “Rights certificates” are issued. The
“right” obtained can be traded on its own and the share will then trade without the right, i.e.
ex rights. The value of an ex-rights share is therefore lower than the value (cum rights value)
of the share on the date on which the rights are announced. The right to buy new shares
at the rights issue price applies only for a certain period of time as was determined by the
company, following which the rights expire and cannot be exercised.

26
1.8.6 Underwriting of share issues
Underwriting of shares was dealt with in detail in Accounting I and is summarised here to
refresh your memory.

As already explained, when a company requires funds from the public, such funds are
obtained by means of a shares issue. The company would normally avail themselves of the
services of a financial institution to handle the issue. Financial institutions frequently
underwrite such issues. This means that the underwriter guarantees that if the whole issue of
shares is not taken up by the public, the financial institution will itself take up the remainder.

The underwriter’s commission is the commission the underwriter receives in return for
furnishing a guarantee that the whole issue will be taken up. This commission is stipulated in
the underwriting agreement and is payable in the form of either cash or paid-up shares in
the company concerned. The commission is calculated on the portion being underwritten,
irrespective of whether the entire issue is taken up or not.

According to the Companies Act 71 of 2008, a company may pay remuneration to the
underwriter for his or her underwriting or his or her undertaking to subscribe for shares in
the company provided that the commission does not exceed 10% of the price at which the
shares are issued, or a lower rate provided in the articles of association.

Underwriter’s commission is calculated as follows:

Broker Ltd underwrites an issue of 50 000 ordinary shares at R2 each in Shortage Ltd. The
underwriting commission is 7%. The public takes up 45 000 shares. The commission is
calculated as follows:
• (50 000 x R2) x 7% = R7 000

The commission is therefore not affected by the number of shares the public took up.

If the full issue is underwritten, the underwriter is liable for the difference between the value
of the full issue and the amount for which the public subscribed.

In the example above, the public subscribed for 45 000 shares and Broker Ltd is therefore
liable for 5 000 shares x R2 = R10 000.

If the issue is partly underwritten, the underwriter has a pro rata liability. Suppose that, in the
example above, Broker Ltd underwrites only 50% of the issue, his or her liability is as follows:
50% of the shortfall = (50% x 5 000) x R2 = R5 000.

The commission will be adjusted accordingly: (50% x 50 000) x R2 x 7% = R3 500.

An issue may also be underwritten by joint underwriters, that is, a single issue is underwritten by
more than one body. If there is an undersubscription, each of the underwriters is responsible
for taking up that portion of the shares that corresponds to his or her portion of the
underwriter’s obligation.

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1.8.7 Dividends
The profit of a company is divided among the shareholders of the company in the form of
dividends. A dividend can therefore be defined as that portion of the profit of a company
which is divided among the shareholders (paid out to them). In other words, it indicates the
pro rata portion which each shareholder receives on his or her shares – say, for example, 10%
or 5c per share.

Dividends will be discussed in more detail in Learning unit 3.

1.9 SELF-REFELCTIVE EXERCISES

1.9.1 Adopt a professional attitude

1. Set and monitor personal learning and development objectives through a wide range
life-long of learning opportunities:

• Lifelong and Lifewide Learning - a Perspective (tennessee.edu)

(After opening the link above answer the questions which follow?)

2. Acquire new knowledge, skills and experiences to remain relevant, adapt career
goals, and empower others:

• Tips for Adult Learning - Bing video

(After opening the link above answer the questions which follow?)

3. Identify and distinguish between the need to learn, unlearn and relearn, so as to
facilitate adaptation to changing practices, roles and work contexts:

• Learn, Unlearn, Relearn - Bing video

(After opening the link above answer the questions which follow?)

1.9.2 Relational acumen

1. Demonstrate an awareness of language differences in all cross-cultural

communication:

• Cross Cultural Communication (communicationtheory.org)

(After opening the link above answer the questions which follow?)

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2. Manage conflict between individuals and across teams:

The video below is an example of conflict and management thereof:

• https://www.bing.com/videos/search?q=examples+of+management+of+conflict+in+t
he+workplace&ru=%2fvideos%2fsearch%3fq%3dexamples%2bof%2bmanagement%2
bof%2bconflict%2bin%2bthe%2bworkplace%26FORM%3dHDRSC4&view=detail&mid
=C815A80B878AFB717524C815A80B878AFB717524&&FORM=VDRVRV
(After opening the link above answer the questions which follow?)

3. Adapt to different professional settings and cultures:

• https://www.bing.com/videos/search?q=examples+of+management+of+conflict+in+t
he+workplace&ru=%2fvideos%2fsearch%3fq%3dexamples%2bof%2bmanagement%2
bof%2bconflict%2bin%2bthe%2bworkplace%26FORM%3dHDRSC4&view=detail&mid
=C815A80B878AFB717524C815A80B878AFB717524&&FORM=VDRVRV
(After opening the link above answer the questions which follow?)

4. Set appropriate goals, monitor and self-reflect on own performance:

• https://www.indeed.com/career-advice/career-development/self-management-skills
(After opening the link above answer the questions which follow?)

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