XADVAC2

Notes in Business Combination

BusCom may be accounted for either as: Fair value of the business is computed simply as:
1. Acquisition of Net Assets
2. Acquisition of Stocks Cash consideration XX
transferred @ Face Value
In #1, acquisition is always 100% and the acquiree is Shares transferred or XX
legally dissolved. Parent records all the assets and issued as consideration @
liabilities in its books just like an ordinary purchase. Fair Value
Contingent Consideration XX
In #2, acquisition is normally below 100% and the @ Estimated Fair Value *
acquiree remains to subsist even if it becomes a wholly-
Fair Value of Previously XX
owned subsidiary by the parent. The parent merely
Held Interest in the
records its consideration as “investment in subsidiary.”
subsidiary **

Phase 1: Consolidation immediately after combination Fair Value of the Non- XX

controlling interest (3)
During phase 1 of the business combination, the first Total Fair Value of the XX
step is always to compute for the result of acquisition. Business

The result of acquisition is computed simply as: *FAIR VALUE of CONTINGENT CONSIDERATION
Contingent Consideration is normally a contingent
Fair value of the Business VS. Fair value of the liability granted as an inducement or incentive for the
identifiable net assets of the Subsidiary, or subsidiary to perform better. Contingent considerations
are subject to scrutiny because they are mere estimates
Parent NCI (3) during the date of combination. These are subject to the
Fair value of the XX XX measurement period provided for in PFRS 3 which is 1
business (1) year. Thus, any change as a result of NEW INFORMATION
Fair value of the (XX) (XX) existing as of combination date will affect the result of
identifiable net acquisition. However, POST-COMBINATION events
assets of the which are non-existent as of combination date will be
subsidiary (2) included in the PROFIT/LOSS of the parent REGARDLESS
Goodwill/(Gain XX XX if they fall within the measurement period.
on Acquisition)
If the change in contingent consideration is the result of
NEW INFORMATION or ERROR, the change will affect the
Rationale: if the difference is positive, the parent sees
result of acquisition EXCEPT if the measurement period is
something intangible in the subsidiary and hence the
not complied with. Thus, even if the change in contingent
difference is Goodwill. It follows therefore, that is the
consideration is a result of error or new information but
difference is negative, the parent pays for a bargain and
such change is known BEYOND or AFTER the 1 year
consequently, Gain on acquisition is recognized.
measurement period, then such change in consideration
will not affect the result of acquisition but will merely be
1. FAIR VALUE OF THE BUSINESS
reflected in the Profit and Loss of the parent.
The fair value of the business consists of the
consideration transferred by the parent including its
If the change in contingent consideration is the result of
previously held interest in the subsidiary if any. This also
POST-COMBINATION EVENTS, the change will
includes the fair value of the Non-Controlling interest or
automatically be reflected as either gain or loss in the
NCI as well as ay contingent consideration in which the
Profit and Loss of the parent even if the change takes
parent may give as incentive in the business combination.
place within the 1 year measurement period.

The following are common POST-COMBINATION EVENTS:

1.) meeting a share price target of subsidiary, 2.) meeting
an earnings target of subsidiary, 3.) milestone in research
and development of subsidiary
**FAIR VALUE of PREVIOUSLY HELD INTEREST (PHI)
Normally, before a parent obtains control in its
subsidiary, the parent owns a pre-existing interest in the
subsidiary i.e. a 25% investment in associate. Such
ownership is carried in the books of the parents normally
at acquisition cost, let’s say P200, 000. PFRS 3 however
requires that consideration transferred including
previously held interest (PHI) be record at their Fair
Values.
The previously held interest normally has no market
value and hence its fair value is not determinable from a
market standpoint. However, there is a logical way to
compute for the fair value of the PHI.
The new consideration given by the parent may it be cash
or shares are indicative of the fair value of the business.
I.e. if the parent is willing to pay P500, 000 for 50% of the
shares of the business, then it is logical to say that if he
were to buy 100% of all its shares, he would be willing to
pay P1, 000,000.
Tying the examples together, if suppose the parent owns
25% interest which he acquired for P200,000 years ago
and now he is paying P500,000 for another 50%, his total
interest will now be equal to 75%. The question is, how
much is the fair value of its total interest? There are two
ways of looking into this.
First approach: The parent’s new interest (50%) in
relation to his total interest (75%) is 66.67 %( 50/75).
Hence, it follows that its total interest is P750, 000
(500,000/66.67%)
Second approach: The parent’s new interest is equal to
50% of the ENTIRE BUSINESS. The total implied fair value
of the business is therefore P1, 000,000. Since the
parent’s total interest is 75%, it follows that the fair value
of its interest is P750, 000.
The fair value of its total interest is P750, 000. P500, 000
of which is the FV of its new interest and it follows that
P250, 000 is the FV of its PHI.
Suppose the acquisition cost of the OLD interest is P200,
000. What will be the implication of the fair value of the
PHI of P250, 000?
The parent will recognize a gain of P50, 000 (250,000-
200,000). This is the consequence of the Fair Value
approach mandated by PFRS 3.
2. FAIR VALUE OF THE INDENTIFIABLE NET ASSETS OF
THE SUBSIARY
In computing the result of acquisition, we compare the
Fair Value of the business with the fair value of the
Identifiable net assets of the subsidiary. PFRS 3 mandates
that all the identifiable net assets and liabilities of the
subsidiary be reflected for consolidation purposes at Fair
value.
The Measurement period of 1 year again applies to the
estimates of the Fair Value of the Identifiable Net Assets
of the Subsidiary. (See rules on the Measurement period
on the previous page.)
Query: What happens to the difference between the book
value and fair value of an identifiable asset and/or
liability?
Answer: Such difference is relevant for Phase 2 of
business combinations or on dates subsequent to the
acquisition. Example of which is the excess of the fair
value over the book value of the inventory. Such excess
will be subject to amortization/realization on
consolidation of the financial statements.
SUBSIDIARY’s Pre-existing Goodwill
OBSERVATION: the caption used is the FAIR VALUE of the
IDENTIFIABLE NET ASSETS of the Subsidiary.
Conclusion: if the subsidiary before combination has pre-
existing goodwill, such goodwill will be written off for
consolidation purposes but will continue to be reported
in the SUBSIDIARY’s SEPARATE STATEMENTS.
3. NON-CONTROLLING INTEREST (NCI)
PFRS 3 requires that Non-Controlling interest be
measured at Fair Value.
Fair value connotes either the Fair value given to the NCI,
its implied value or its Proportionate share in the FVNA
of the subsidiary.
The Fair Value attached to the NCI CANNOT BE LOWER
THAN their proportionate share in the FVNA of the
subsidiary. Thus, NCI can never recognize any gain on
acquisition and is limited to recognizing goodwill.
Reason for the rule: the owners of the NCI are mere
spectators and play a passive role in the business
combination and are therefore disallowed to recognize
gain on their interests.
There are two types of goodwill methods to be used in 3. CONSOLIDATED TOTAL SHAREHOLDERS’ EQUITY
business combinations. Either the total/full or grossed up Only the parent’s equity items are included in the
goodwill or the partial goodwill approach. computation of CSHE. The subsidiary’s equity is
eliminated against the Investment in Subsidiary account
FULL GOODWILL - under the Full Goodwill, the Fair Value as well as against the NCI account.
attached to the NCI will be either the given/implied fair
value or the Proportionate share in the FVNA, whichever Parent’s This includes the XX
is HIGHER. Common Stock newly-issued
stocks if shares
were issued as
PARTIAL GOODWILL – under the partial goodwill, the fair
consideration
value of the NCI is ALWAYS equal to the proportionate
Parent’s APIC This includes the XX
share in the FVNA meaning there is NO GOODWILL for APIC arising
the NCI. from the new
issue if shares
CONSOLIDATED FINANCIAL STATETMENTS on the Date were issued as
of Acquisition (PHASE 1) consideration
(Stock issue
At this point, only the Consolidated Balance Sheet may
costs may be
be prepared because there are no operations as Parent-
deducted
Subsidiary yet. directly from
Parent’s APIC)
CONSOLIDATED BALANCE SHEET Parent’s RE Acquisition- XX
related costs
1. CONSOLIDATED TOTAL ASSTES (direct and
indirect costs
For consolidation purposes, assets should be included in
may be
their Book Values for Parent’s assets and Fair Value for deducted
Subsidiary’s assets. Hence, a simple formula follows: directly from
Parent’s RE)
Parent’s Assets at Book XX Gain from XX
Value Acquisition
Subsidiary’s Assets at Fair XX Gain from XX
changes in Fair
Value
Value of PHI
Goodwill arising from the XX Non-controlling This generally is XX
Combination interest the Fair Value of
Cash Paid as (XX) the NCI which
Consideration includes both
Cash Paid for Acquisition (XX) their
proportionate
Related Costs
share in FVNA
Consolidated Total Assets XX and their share
in Goodwill if
2. CONSOLIDATED TOTAL LIABILITIES any.
Again, Parent’s liabilities will be included at their Book Acquisition For consolidated (XX)
Values and Subsidiary’s liabilities will be included at their Related Costs equity, these
may be lumped
Fair Values.
together and
deducted in their
Parent’s Liabilities at Book XX entirety
Value PROVIDED that
Subsidiary’s Liabilities at XX they have not
Fair Value yet been
deducted from
Contingent Consideration XX
APIC and R/E
at estimated fair value otherwise, they
Consolidated Total XX would be
Liabilities deducted twice
Consolidated XX
Total Equity
 FLOOR TEST – FV of NCI should not be less than INAS
Notes for CONTROL PREMIUM
Additional Notes in Business Combination 1. Should be included in Purchase Price
2. Excluded in Computing NCI
Business Combination – is a transaction where the 3. It affects Goodwill or Gain on Acquisition
acquirer obtains control over the net assets of the
acquiree. COMPUTATION OF TOTAL ASSETS, LIABILITIES &
EQUITY ON DATE OF BUSINESS COMBINATION
Ownership Account Title Model
>0% - <20% Financial Asset Cost / Fair Value Total Assets of Parent @ BV XX
@ Fair Value Total Assets of Subsidiary @ FV XX
Through PL / Goodwill (arising from buscom) XX
OCI (Purchase Price in Cash)* (XX)
20% - 50% Investment in Equity (Direct Cost)** (XX)
Associate *if SME, may use (Indirect Cost)** (XX)
Cost/Equity/FV (Cost to Issue and Register)** (XX)
>50% - 100% Investment in Cost / Equity / TOTAL ASSETS XX
Subsidiary Fair Value *Disregard if assets of Parent are after payment
**Only deduct IF PAID
TYPES OF BUSINESS COMBINATION
1. Asset Acquisition – 100% ownership Total Liabilities of Parent @ BV XX
1.1 Statutory Merger – A + B = A or B (one continues) Total Liabilities of Subsidiary @ FV XX
1.2 Statutory Consolidation – A + B = C FV of Contingent Consideration Payable XX
2. Stock Acquisition – A + B = A&B Purchase Price - Liabilities XX
2.1 Fully Owned Subsidiary – 100% Direct Cost* XX
2.2 Partially Owned Subsidiary - <100% Indirect Cost* XX
Cost to Issue and Register* XX
ACQUISITION RELATED EXPENSES
TOTAL LIABILITIES XX
1. Direct Cost – Expensed
*Only add IF NOT PAID
2. Indirect Cost – Expensed
3. Cost to Issue and Register (CTIR)
Shareholders’ Equity of Parent @ BV XX
These costs are treated for in the following priority:
Shareholders’ Equity of Subsidiary
3.1 Deducted from Share Premium from issuance of
(ELIMINATED)
NEW shares
Only include NCI if any XX
3.2 Deducted from other existing Share Premium
Gains
*3.3 Debited to “Stock Issuance Cost” (SIC) which a
-Gain on Acquisition
separate line item is considered as a deduction to
-Gain/Loss on PHI
SHE
-Gain/Loss on Contingent Consideration Payable* XX
*SIC is no longer deducted from R/E as per Philippine
Purchase Price (New Issuance @ FV) XX
Interpretation Committee
(Direct Cost)** (XX)
(Indirect Cost)** (XX)
PRESENTATION OF NCI
1. Fair Value of NCI (Full Goodwill) (Cost to Issue and Register)*** (XX)
If the FV is unknown, compute for the implied FV using TOTAL SHAREHOLDERS’ EQUITY XX
the following formula *Arises only beyond date of acquisition
(PP – Control Premium) / CI% x NCI% **Deducted whether PAID OR NOT
***CTIR is considered as a Contra Equity item.
PP or Purchase Price includes:
a. FV of Consideration Transferred READ, READ, READ, PRACTICE, PRACTICE, PRACTICE
b. FV of Previously Held Interest (PHI) AND PRAY, PRAY, PRAY
c. FV of Contingent Consideration

2. Proportionate/Relevant Share (Implied Goodwill)

FVNA x NCI% = INAS (Interest in NA of Subsidiaries)