Related Party Disclosures
The standards, which have been set in bold italic type, should be read in the context of the background material and implementation guidance in this Standard, and in the context of the Preface to Financial Reporting Standards. Financial Reporting Standards are not intended to apply to immaterial items.
- This Standard should be applied in dealing with related parties and transactions between a reporting enterprise and its related parties. The requirements of this Standard apply to the financial statements of each reporting enterprise.
- This Standard applies only to those related party relationships described in paragraph 3, as modified by paragraph 6.
- This Standard deals only with those related party relationships described in (a) to (e) below:
- enterprises that directly, or indirectly through one or more intermediaries, control, or are controlled by, or are under common control with, the reporting enterprise. (This includes holding companies, subsidiaries and fellow subsidiaries);
- associates (see FRS 28, Accounting for Investments in Associates);
- individuals owning, directly or indirectly, an interest in the voting power of the reporting enterprise that gives them significant influence over the enterprise, and close members of the family(1) of any such individual;
- key management personnel, that is, those persons having authority and responsibility for planning, directing and controlling the activities of the reporting enterprise, including directors and officers of companies and close members of the families of such individuals; and
- enterprises in which a substantial interest in the voting power is owned, directly or indirectly, by any person described in (c) or (d) or over which such a person is able to exercise significant influence. This includes enterprises owned by directors or major shareholders of the reporting enterprise and enterprises that have a member of key management in common with the reporting enterprise.
In considering each possible related party relationship, attention is directed to the substance of the relationship, and not merely the legal form.
(1) Close members of the family of an individual are those that may be expected to influence, or be influenced by, that person in their dealings with the enterprise
4. No disclosure of transactions is required:
- in consolidated financial statements in respect of intra-group transactions;
- in parent financial statements when they are made available or published with the consolidated financial statements;
- in financial statements of a wholly-owned subsidiary if its parent is incorporated in the same country and provides consolidated financial statements in that country; and
- in financial statements of state-controlled enterprises of transactions with other state-controlled enterprises
5. The following terms are used in this Standard with the meanings specified:
Related party - parties are considered to be related if one party has the ability to control the other party or exercise significant influence over the other party in making financial and operating decisions.
Related party transaction - a transfer of resources or obligations between related parties, regardless of whether a price is charged.
Control - ownership, directly, or indirectly through subsidiaries, of more than one half of the voting power of an enterprise, or a substantial interest in voting power and the power to direct, by statute or agreement, the financial and operating policies of the management of the enterprise.
Significant influence (for the purpose of this Standard) - participation in the financial and operating policy decisions of an enterprise, but not control of those policies. Significant influence may be exercised in several ways, usually by representation on the board of directors but also by, for example, participation in the policy making process, material intercompany transactions, interchange of managerial personnel or dependence on technical information. Significant influence may be gained by share ownership, statute or agreement. With share ownership, significant influence is presumed in accordance with the definition contained in FRS 28, Accounting for Investments in Associates.
6. In the context of this Standard, the following are deemed not to be related parties :
- two companies simply because they have a director in common, notwithstanding paragraphs 3 (d) and (e) above, (but it is necessary to consider the possibility, and to assess the likelihood, that the director would be able to affect the policies of both companies in their mutual dealings);
- (i) providers of finance;
(ii) trade unions;
(iii) public utilities;
(iv) government departments and agencies,
in the course of their normal dealings with an enterprise by virtue only of those dealings (although they may circumscribe the freedom of action of an enterprise or participate in its decision-making process); and
- a single customer, supplier, franchisor, distributor, or general agent with whom an enterprise transacts a significant volume of business merely by virtue of the resulting economic dependence.
The Related Party Issue
7. Related party relationships are a normal feature of commerce and business. For example, enterprises frequently carry on separate parts of their activities through subsidiary or associated enterprises and acquire interests in other enterprises - for investment purposes or for trading reasons - that are of sufficient proportions that the investing company can control or exercise significant influence on the financial and operating decisions of its investee.
8. A related party relationship could have an effect on the financial position and operating results of the reporting enterprise. Related parties may enter into transactions which unrelated parties would not enter into. Also, transactions between related parties may not be effected at the same amounts as between unrelated parties.
9. The operating results and financial position of an enterprise may be affected by a related party relationship even if related party transactions do not occur. The mere existence of the relationship may be sufficient to affect the transactions of the reporting enterprise with other parties. For example, a subsidiary may terminate relations with a trading partner on acquisition by the parent of a fellow subsidiary engaged in the same trade as the former partner. Alternatively, one party may refrain from acting because of the significant influence of another - for example, a subsidiary may be instructed by its parent not to engage in research and development.
10. Because there is an inherent difficulty for management to determine the effect of influences which do not lead to transactions, disclosure of such effects is not required by this Standard.
11. Accounting recognition of a transfer of resources is normally based on the price agreed between the parties. Between unrelated parties the price is an arm's length price. Related parties may have a degree of flexibility in the price-setting process that is not present in transactions between unrelated parties.
12. A variety of methods is used to price transactions between related parties.
13. One way of determining a price for a transaction between related parties is by the comparable uncontrolled price method, which sets the price by reference to comparable goods sold in an economically comparable market to a buyer unrelated to the seller. Where the goods or services supplied in a related party transaction, and the conditions relating thereto, are similar to those in normal trading transactions, this method is often used. It is also often used for determining the cost of finance.
14. Where goods are transferred between related parties before sale to an independent party, the resale price method is often used. This reduces the resale price by a margin, representing an amount from which the re-seller would seek to cover his costs and make an appropriate profit, to arrive at a transfer price to the re-seller. There are problems of judgement in determining a compensation appropriate to the re-seller's contribution to the process. This method is also used for transfers of other resources, such as rights and services.
15. Another approach is the cost-plus method, which seeks to add an appropriate mark-up to the supplier's cost. Difficulties may be experienced in determining both the elements of cost attributable and the mark-up. Among the yardsticks that may assist in determining transfer prices are comparable returns in similar industries on turnover or capital employed.
16. Sometimes prices of related party transactions are not determined under one of the methods described in paragraphs 13 to 15 above. Sometimes, no price is charged - as in the examples of the free provision of management services and the extension of free credit on a debt.
17. Sometimes, transactions would not have taken place if the relationship had not existed. For example, a company that sold a large proportion of its production to its parent company at cost might not have found an alternative customer if the parent company had not purchased the goods.
18. In many countries the laws require financial statements to give disclosures about certain categories of related parties. In particular, attention is focused on transactions with the directors of an enterprise, especially their remuneration and borrowings, because of the fiduciary nature of their relationship with the enterprise, as well as disclosures of significant intercompany transactions and investments in and balances with group and associated companies and with directors. FRS 27, Consolidated Financial Statements and Accounting for Investments in Subsidiaries, and Financial Reporting Standard FRS 28, Accounting for Investments in Associates, require disclosure of a list of significant subsidiaries and associates. FRS 8, Net Profit or Loss for the Period, Fundamental Errors and Changes in Accounting Policies, requires disclosure of extraordinary items and items of income and expense within profit or loss from ordinary activities that are of such size, nature or incidence that their disclosure is relevant to explain the performance of the enterprise for the period.
19. The following are examples of situations where related party transactions may lead to disclosures by a reporting enterprise in the period which they affect:
· purchases or sales of goods (finished or unfinished);
· purchases or sales of property and other assets;
· rendering or receiving of services;
· agency arrangements;
· leasing arrangements;
· transfer of research and development;
· licence agreements;
· finance (including loans and equity contributions in cash or in kind);
· guarantees and collaterals; and
· management contracts.
20. Related party relationships where control exists should be disclosed irrespective of whether there have been transactions between the related parties.
21. In order for a reader of financial statements to form a view about the effects of related party relationships on a reporting enterprise, it is appropriate to disclose the related party relationship where control exists, irrespective of whether there have been transactions between the related parties.
22. If there have been transactions between related parties, the reporting enterprise should disclose the nature of the related party relationships as well as the types of transactions and the elements of the transactions necessary for an understanding of the financial statements.
23. The elements of transactions necessary for an understanding of the financial statements would normally include:
- an indication of the volume of the transactions, either as an amount or as an appropriate proportion;
- amounts or appropriate proportions of outstanding items; and
- pricing policies.
24. Items of a similar nature may be disclosed in aggregate except when separate disclosure is necessary for an understanding of the effects of related party transactions on the financial statements of the reporting enterprise.
25. Disclosure of transactions between members of a group is unnecessary in consolidated financial statements because consolidated financial statements present information about the parent and subsidiaries as a single reporting enterprise. Transactions with associated enterprises accounted for under the equity method are not eliminated and therefore require separate disclosure as related party transactions.
26. FRS 24, Related Party Disclosures, is operative for financial statements covering periods beginning on or after 1st January 1987.