QUESTION ONE

$[30]$

This question comprises two independent parts.

PART A

GoMart Ltd $($GoMart$)$ is a diversified utility, manufacturing and supermarket retailer company based in Cape Town. You are furnished with the following information in respect of GoMart Ltd$\text{'}$s annual financial statements for the year ended $31$ December $20\mathrm{.}8$:

GoMart's supermarket division, Save Supermarkets, has opened the country's largest superstore in Durban and has arranged for GoBag Ltd $($GoBag$)$ to supply their plastic bag requirements for the superstore with effect from $1$ January $2019.$

The agreement is for a four$-$year period and the terms are as follows:

GoBag Ltd will set up a new bag$-$making machine in a warehouse located close to and dedicated to the Durban Superstore of GoMart. The bag$-$making machine will be owned and operated by GoBag. The contract stipulated the type and quality of bags to be supplied by GoBag to GoMart.

GoBag Ltd has the right to use the machine for other bag orders but that is considered unlikely as it is designed and set up to produce bags that are unique to the Save Supermarkets superstore.

Save Supermarkets will purchase a minimum of $1$ million bags per month. It is expected that normal demand will be in the region of $1\mathrm{.}5$ million bags per month with the maximum output capacity of the bag$-$making machine being $1,6$ million bags per month.

In terms of the contract, GoBag operates and maintains the bag$-$making machine and makes the ultimate decision in terms of its operation, use, maintenance and possible modification for a change in use.

REQUIRED

Discuss whether GoMart Ltd$\text{'}$s contract with GoBag Ltd is a lease in terms of IFRS $16$ Leases.

$(15)$

PART B

Carspares Limited, a manufacturer of automotive components for both local and foreign car manufacturers, is listed on the Johannesburg Stock Exchange.

On $1$ January $2014,$ Carspares Limited entered into a lease agreement with Jones Limited the lessor, for the use of a large storage facility at Best Industrial Park outside Johannesburg. The lease was for a period of six years with an option to extend the lease for a further four years. At the commencement of the lease, Carspares Limited was not reasonably certain that it would exercise the renewal option to extend the lease beyond the initial six$-$ year term of the lease.

On $1$ January $2014,$ Carspares Limited paid initial direct costs of R$25000$ relating to the lease and a further amount of R$60000$ for leasehold improvements to the storage facility.

In terms of the lease agreement, the annual lease payments were as follows:

R$320000$ at the commencement of the lease on $1$ January $2014$;

R$150000$ payable annually thereafter during the next five years of the initial six$-$year term of the lease; and

R$180000$ payable annually thereafter in advance during the renewal period commencing on $1$ January $2020.$

The interest rate implicit in the lease was not determinable. Carspares Limited's incremental borrowing rate at the commencement of the lease was $11\%$ per annum, which reflected the equivalent risk on future borrowings by Carspares Limited.

Towards the end of the $2017$ financial year, Carspares Limited's rapidly expanding business prompted the company to reconsider its storage capacity in the area. To this end, the directors of Carspares Limited made a formal decision on $1$ January $2018$ to exercise the option to extend the original lease for the renewal period of four years to a total lease term of $10$ years.

On $1$ January $2018,$ Carspares Limited's incremental borrowing rate was $10\%$ per annum.

REQUIRED

Briefly discuss how Carspares Limited should account for the decision of its directors regarding the storage facility lease on $1$ January $2018,$ in accordance with International Financial Reporting Standards.

$5$ marks

Prepare journal entries to reflect all matters relating to the lease in the accounting records of Carspares Limited for the year ended $31$ December $2018.$

Entries relating to depreciation and taxation are NOT required.

$10$ marks