Has become. A good change also affected the area of accounting...
This happened some time ago, the change went a bit unnoticed, but it is worth introducing this change to you. On July 23, 2015, the Act amending the Accounting Act and certain acts was passed. Pursuant to this Act, the principle of presenting two items in the balance sheet was changed: "Own shares (shares)" and "Payments due for share capital". So far - that is, until the balance sheet was prepared as at December 31, 2015 - both items were recognized as part of equity with a negative value.
From the moment of preparation of the balance sheet as at December 31, 2016, both items under the Polish Accounting Act (hereinafter referred to as "AA") should be recognized as separate asset items, of course with a positive value. Additionally, this correction in the Accounting Act forced a change in the Commercial Companies Code (hereinafter referred to as "CCC") in Art. 200 § 3 and art. 363 § 6, which currently states that shares and treasury shares, respectively, should be included in the balance sheet as a separate asset item.
Focusing on shares and own shares, it should be clearly emphasized that, in general, the laws of countries around the world are reluctant to consider the possibility of owning shares and shares, seeing such a possibility as a potential violation of the principles of corporate governance, and more specifically, the risk of participation of company management boards in decision-making processes reserved only for for shareholders and shareholders. The possibility of owning shares and shares is limited to exceptional situations, which is appropriately reflected in the Commercial Companies Code (Articles 200, 362, 363, 364 and 366).
What about the balance sheet recognition of treasury shares outside Poland? Generally, all over the world, treasury shares (so-called treasury shares in the English nomenclature) are recognized in equity with a negative value. In particular, IAS 32 Financial Instruments: Presentation clearly states that the cost of purchasing own shares reduces the value of equity. The presentation of shares and equity shares as part of equity with a negative value results from the general principle that transactions between the entity and shareholders should be recognized directly in equity.
Let's think for a moment what the difference is between situation A, in which on April 30, entity in which entity X issues 900 shares on May 1 at a nominal issue price equal to 1,000 PLN The answer is simple - at the end of May 1, there is no difference from the point of view of the situation of entity X; if there is no difference, the balance sheets should be the same, and in particular the value of equity should increase by exactly 900,000 PLN. However, the change in the AA forces us to look at it differently: in situation A, the equity will increase by 1 million PLN plus a new asset will appear - treasury shares worth 100,000 PLN; in situation B, equity will simply increase by 900,000 PLN. For clarity, assuming that we are dealing with cash contributions, for both situations the cash will increase by 900,000 PLN. This means that we will be dealing with two different balance sheets, even though the actual economic content at the end of May 1 is the same - puzzling...
An important aspect to consider is the fact that, in general, legal systems around the world prohibit the exercise of share rights from own shares - in our country, this is stipulated in Art. 364 § 2 - i.e. own shares do not entitle you to receive a dividend, do not give you the right to vote at the shareholders' meeting, or the right to participate in the liquidation assets. The fundamental question then arises whether treasury shares meet the definition of an asset. The AA defines assets as "property resources controlled by an entity with a reliably determined value, resulting from past events that will result in future economic benefits for the entity" (Article 3(1)(12). No possibility for the company to exercise share rights from own shares calls into question the possibility of receiving the main economic benefits - this is another argument for not recognizing own shares as an asset. The only actual possible benefit is the potential subsequent sale of own shares to another entity. However, the potential subsequent sale of own shares is actually the same as a possible future issue of new shares - does this mean that we should also include future possible issues of new shares in the equity balance sheet? But we can always issue new shares - such a way of thinking would lead to the concept of an unlimited value of equity capital. Fortunately, currently planned future issues of shares and equity cannot be recognized in equity in accordance with the AA... But why should we recognize equity and equity in assets and equity? It would be reasonable to assume that, on the same principle of not recognizing future issues of shares in equity, own shares should not be included in equity.
As an aside, it is worth adding that in English systems we often deal with two concepts - authorized share capital and issued share capital . The first term means the maximum level of share capital of a given entity in accordance with its agreement/statutes - the maximum number of shares that can be issued times the nominal value. The second term is the actual level of share capital - the actual number of issued shares multiplied by the nominal value. Of course, only issued share capital is recognized in equity, potential future new issues are irrelevant in this situation - they are not recognized in equity, similarly to treasury shares.
The general principle of recognizing transactions between an entity and shareholders directly in equity should also apply to due contributions to share capital. If a shareholder acquired shares with a nominal value of 1 million PLN for a cash contribution and paid only 250,000 PLN (25% is the minimum level of payment for shares acquired for cash contributions - Article 309 § 3 of the Commercial Companies Code), what is the thought process that requires recognizing an increase in equity by the entire 1 million PLN and at the same time disclosing 750,000 PLN receivable? Previous approach – direct recognition of an increase of 250,000 PLN in equity (plus 1 million PLN in share capital and minus 750,000 PLN in due payments) - seems more clear.
What are the consequences of the discussed change in the AA?
The first consequence is an artificial increase in the equity and balance sheet total of entities applying the AA and which are affected by the issue of own shares and due contributions to the share capital. Such an artificial increase in equity may lead to an incorrect assessment of the financial situation - based on the actually artificially inflated value of equity, non-financiers may wrongly conclude that the financing structure and liquidity of the entity are stable and satisfactory, while it may be on the verge of losing liquidity. .
It is worth stopping for a moment here when considering the balance sheet valuation of shares and own shares. Our company, professionally engaged in the valuation of various types of financial instruments, would be happy to support you in the valuation of your own shares. But unfortunately it will not support… The reason is simple – Art. 28 section 1 point 9a) AA requires that shares and treasury shares be valued at purchase prices. Simply fixed valuation at purchase price, independent of the financial situation of the entity - shares and own shares are not subject to write-offs for permanent loss of value. We are dealing with a specific situation in which the carrying value of an asset is detached from potential future economic benefits - in this case, from the future possible sales price (the only possible benefit). Let's imagine a situation in which, since the purchase of treasury shares, competition in our sector has increased significantly and our profits have fallen by half - this will not affect the balance sheet value of treasury shares on the assets side. Wondering…
The exception is the situation of being put into liquidation (or bankruptcy) and potentially subject to restructuring proceedings - then, in accordance with Art. 29 section 1 of the AA, shares and own shares should be valued at net realizable prices, not higher than their purchase prices - realistically, it should be zero. And further consistently, Art. 36 section 3 and 4 of the AA requires that equity capital be reduced by the cost of purchasing shares.
The second consequence is the lack of comparability. We have another factor increasing the differences between the financial statements of Polish entities applying IFRS/IAS (and foreign entities that do not apply the AA by definition) and Polish entities that apply the AA. This may be particularly visible among companies listed on the Warsaw Stock Exchange (hereinafter "GPW"). For the sake of clarity, IFRS/IAS must be applied to the consolidated financial statements of entities admitted to public trading on the WSE; and IFRS can only be applied to the individual reports of these entities - an alternative is to use the AA. In particular, entities listed on the WSE that do not form capital groups may naturally be more interested in the application of the AA.
The third consequence directly concerns our subject of activity - the valuation of companies, enterprises and financial assets. The introduced changes, leading to additional lack of comparability of financial statements between entities using different accounting standards, should increase the vigilance of specialists who value enterprises using commonly used methods. In particular, this concerns the need to consider and take into account appropriate adjustments to the adjusted assets method, the market method (comparisons of public companies) and income methods when analyzing comparable companies. But this is a topic for an additional, extensive post…
Did we need this change in the AA? I leave it to your judgment…