Disposal of Investments in Associates
Recap: Organic Food Everyday bought 30% of Vege Farm shares with $10,000 (assume $1.00 per share, 10,000 units of Vege Farm shares), and Vege Farm became associates of Organic Food Everyday.
We are incredibly lucky that right after we received dividends from Vege Farm, a new investor made a huge investment in Vege Farm and we cash out a small portion of our shares. We cash out 1,500 units of Vege Farm shares with $2.00 per share. It means:
First, we made $1,500 profit from disposing the shares: $1,500 = 1,500 shares x $2.00 (selling price) – 1,500 shares x $1.00 (initial cost). This profit is taxable, so we must record it in the Income Statement.
| Income Statement | Year 1 | Year 2 | Explanation |
|---|---|---|---|
| Revenue | 200,000.00 | 280,000.00 | |
| Cost of Sales | (110,000.00) | (150,000.00) | |
| Gross Profit | 90,000.00 | 130,000.00 | |
| Selling and marketing expenses | (3,000.00) | (7,000.00) | |
| Administrative expenses | (50,000.00) | (50,000.00) | |
| Operating Expenses | (53,000.00) | (57,000.00) | |
| Depreciation | 0.00 | (6,000.00) | |
| Amortisation of intangible assets | 0.00 | (11,000.00) | |
| Operating Profit | 37,000.00 | 56,000.00 | |
| Other Income / (Expenses) | 900.00 | 900.00 | |
| Interest Income / (Expenses) | 0.00 | (1,750.00) | |
| Gains / (Losses) on disposal of quoted shares | 0.00 | 1,000.00 | |
| PP&E written off | 0.00 | (3,000.00) | |
| Inventories written off | 0.00 | (500.00) | |
| Receivables written off | 0.00 | (800.00) | |
| Share of profit of associate | 0.00 | 2,700.00 | |
| Gains / (Losses) on disposal of Vege Farm | 0.00 | 1,500.00 | 1,500 shares x $2.00 (selling price) – 1,500 shares x $1.00 (initial cost) |
| Profit Before Tax | 37,900.00 | 56,050.00 | |
| Income tax expense (24%) | (9,096.00) | (13,452.00) | |
| Net Income | 28,804.00 | 42,598.00 |
Keep in mind that the Income Statement and Cash Flow Statement show us only what is happening in this period. Therefore, due to timing differences, we must take the gain as a non-cash adjustment in the Cash Flow Statement.
Besides, we received $3,000 cash from the disposal: $3,000 = 1,500 shares x $2.00 (selling price). However, we do not gain $3,000 in cash in this period, but it is a cash gain relative to what we paid for the asset, be it in the same period or different period. Therefore, we record $3,000 cash in the Cash Flows From Investing Activities section. The concept is exactly same with how we treat disposing short-term and long-term investments.
| Cash Flow Statement | Year 1 | Year 2 | Explanation |
|---|---|---|---|
| Cash flows from operating activities | |||
| Net Income | 28,804.00 | 42,598.00 | |
| Depreciation | 0.00 | 6,000.00 | |
| Amortisation of intangible assets | 11,000.00 | ||
| (Gains) / Losses on disposal of quoted shares | 0.00 | (1,000.00) | |
| PP&E written off | 0.00 | 3,000.00 | |
| Inventories written off | 0.00 | 500.00 | |
| Receivables written off | 0.00 | 800.00 | |
| Share of profit of associate | 0.00 | (2,700.00) | |
| Gains / (Losses) on disposal of Vege Farm | 0.00 | (1,500.00) | |
| Changes in working capital | |||
| (Increase)/Decrease in Inventory | 0.00 | (22,000.00) | |
| (Increase)/Decrease in Accounts Receivable | 0.00 | (45,000.00) | |
| (Increase)/Decrease in Prepaid Expenses | 0.00 | (16,000.00) | |
| Increase/(Decrease) in Accounts Payable | 0.00 | 4,000.00 | |
| Increase/(Decrease) in Deferred Revenue | 0.00 | 11,500.00 | |
| Net cash from operating activities | 28,804.00 | (8,802.00) | |
| Cash flows from investing activities | |||
| Capital Expenditures | 0.00 | (18,000.00) | |
| Acquisition of quoted shares | 0.00 | (10,000.00) | |
| Disposal of quoted shares | 0.00 | 11,000.00 | |
| Acquisition of Café 95 | 0.00 | (180,000.00) | |
| Acquisition 30.0% of Vege Farm ownership | 0.00 | (10,000.00) | |
| Dividend received from associate | 0.00 | 450.00 | |
| Disposal of shares of Vege Farm | 0.00 | 3,000.00 | 1,500 shares x $2.00 (selling price) |
| Net cash from investing activities | 0.00 | (203,550.00) | |
| Cash flows from financing activities | |||
| Proceeds from bank borrowings | 0.00 | 50,000.00 | |
| Repayment of bank borrowings | 0.00 | (5,000.00) | |
| Shares Issuance | 0.00 | 10,000.00 | |
| Dividends Issued | 0.00 | (8,000.00) | |
| Shares Repurchase | 0.00 | (10,000.00) | |
| Net Cash from financing activities | 0.00 | 37,000.00 | |
| Net Change in Cash | 28,804.00 | (175,352.00) |
At last, we must adjust book value of Investment in Associates in the Balance Sheet: $10,750.00 = $10,000 (Initial book value) + $2,700 (Share of profit of associate) – $450 (Dividend received from associate) – $1,500 (Gains / (Losses) on disposal of Vege Farm)
| Balance Sheet | Year 1 | Year 2 | Explanation |
|---|---|---|---|
| Assets | |||
| Current Assets | |||
| Cash | 30,000.00 | (65,352.00) | |
| Inventory | 0.00 | 21,500.00 | |
| Accounts Receivable | 0.00 | 44,200.00 | |
| Prepaid Expenses | 0.00 | 16,000.00 | |
| Short-Term Investments | 0.00 | 0.00 | |
| Total Current Assets | 30,000.00 | 16,348.00 | |
| Long Term Assets | |||
| Property, plant and equipment | 0.00 | 39,000.00 | |
| Intangible Assets | 0.00 | 44,000.00 | |
| Goodwill | 0.00 | 25,000.00 | |
| Investment in Associates | 0.00 | 10,750.00 | $10,000 (Initial book value) + $2,700 (Share of profit of associate) – $450 (Dividend received from associate) – $1,500 (Gains / (Losses) on disposal of Vege Farm) |
| Total Long Term Assets | 0.00 | 118,750.00 | |
| Total Assets | 30,000.00 | 135,098.00 | |
| Liabilities & Equity | |||
| Current Liabilities | |||
| Accounts Payable | 0.00 | 14,000.00 | |
| Deferred Revenue | 0.00 | 11,500.00 | |
| Total Current Liabilities | 0.00 | 25,500.00 | |
| Long Term Liabilities | |||
| Borrowings | 0.00 | 45,000.00 | |
| Total Long Term Liabilities | 0.00 | 45,000.00 | |
| Toal Liabilities | 0.00 | 70,500.00 | |
| Equity | 30,000.00 | 64,598.00 | |
| Total Liabilities & Equity | 30,000.00 | 135,098.00 |
Impact of Disposal of Investments in Associates to the Financial Statements in a Glance
