Business combination is the t, . gaterprises are brought to ae applied to external expansion inwhich separate gnierprise obtaining contr wet er into one economic entity as a result of one a ‘ol over the net assets and operations ofanother enteprise. are increasii father than ‘rough a to expand operations through business combinations ‘gfects of recession, infl nal expansion. This development is largely due to the ee nment to control lation, and continued uncertainty over the ability of the a. ntrol economic ills. With business combination, both companies pill utilize common facilities and share fixed costs. In addition, a business ination may be undertaken for the possible tax advantages available to one “ormore parties to the combination. Ej However, business combinations involve certain limitations and risks. Corporate abjectives must be taken into consideration. Only those companies which have the ‘same or compatible sets of objectives ‘should combine. On the other hand, “successful firms are us ually not willing to combine. The acquiring enterprise may ‘also inherit the acquired firm's inefficiencies and problems together with its inadequate resources. . Business Combination Defined IFRS 3 defines business combination as a transaction or other event in which an ; e or more businesses (the acquire). For each “acquirer obtains control of on e | ss business combination, one of the combining entities shall be identified as the “Acquirer. Scanned with CamScannerc _ Sl anne # Business : Me extn the Standant a “an integrated set of activities and assets thatig A business is conducted! and managed for the purpose of pr oviding a retum inthe capable 0! ae, Jower costs or dther economic benefits directly to investors Orothep fa of vide ticular” [IFRS 3 Appostdix Al. owners, ifies that a business consists of inputs and processes applieq ie The Sunda to create outputs. Jnputis any economic resource: that cose se ability to create outputs when one or more processes are applied to it, These pice y intangible assets or rights to use non-current assets, intellectual pro fevbility to obtain access to necessary materials or rights and employees, Process ' system, standard, protocol, convention or rule that when applied to an input or inputs ereates or has the ability to create outputs. Examples include strategic process, operational processes and resource management processes, Output isthe result of inputs and process or processes applied to those inputs that will Provide og have the ability to provide a retum in the form of dividends, lowercosts or other economn benefits directly to investors or other owners, members or participants, Although businesses usually have outputs, outputs are not required for an integrated set to qualify asa business. For example, an integrated set of activities and assets in the development stage might not have outputs. In such cases, the acquirer should consider other factors to determine whether the set of activities is a business, These include whether the set of activities: (a) has begun planned principal activities; (b) has employees, intellectual property and other inputs and processes that could be applied to those inputs; : (©) ispursuinga plan to produce outputs; and (@)_ will be able to obtain access to customers that will purchase the outputs, Not all of these factors need to be present for a particular integrated set of activities and assets in the development stage to qualify as a business. Also, although most businesses sealers liabilities, a set of integrated activities need not have liabilities to qualify as abusiness, The Standard takes the view that "in the absence of evidence to the contrary, a particular rot selsand activites in which goodwill is present shall be presumed to bea bites However, a business need not have goodwill". Scanned with CamScanneranufacturi ed ne Pl; areas follows fA Com 7 Npany, The set ofassets acquired and liability -PMillion 100 60 e 20 wipment 20 secured on the factory premise . (50) -etrench the existing employees of the factory and pay their he vendor will r rmination benefits. The set of assets is not capable of generating 1 X believes it can use this set of assets to obtain deration of P55 million sh flows. However. Entity : es of scale with stsexisting facilities. Itpaysa consi Scanned with CamScanneroi al 1, 2016, the summarized a ber 3 a i inl year, Decem , a fOllOWS! — te io eh acm the end OF of Pntity X is - af financial POS . Fillion pant and fctory premises io em 250 Crete 09 100 Carrent liabilities 200 term loans oor eae 300 Total liabilities 4 att Share capital ; 100 snedearnings ; 200 Equity attributable to owners” 300 0 Required: (a) Explain how Entity X shall account for the purchases of the two sets of assets. and () Prepare the statement of financial position of Entity X as of Jan 1;2 immediately afer the acquisition of thetwo sets of assets end activities. Scanned with CamScannerp 13-1 ! : easured, Pe at P20 mili ; ie ion). 0 million (P10 million less the netassets set of assets and liabilities i pusiness because somes in the second acquisition cannot be identified 35% evident: Entity X will onk three elements of inputs, processes and outpuss economies of scale. Th y use them together with ts exist eres taal eco ores the cost paid for this quisition. allocated the cost as iene exceeds the net carrying amount, Entity X E Factory premises (60+ .6x5) Pyiicn PE Machinery (20+ .2x5) . 2 Equipment (20 +.2x5) 1 ‘Mortgage loan - : ©) Cost of purchase 5 58 (p) Statement of Financial Position —As of January 41,2017 Current assets (250+ 155) Lt Ni 95 Plant and factory premises (200+ 100+ 63) 363 Machin (101 +50+21) Vn Equipment (50+ 20+21) a Goodwill on combinat n 20 Total Assets 740. Current liabilities 100 erm | (200+90+50) ce Share capital A “Total Liabilities and Batty 740 Scanned with CamScannerChapter: 6 f F trON OF CONTROL ACQUIST c » may be achieved by cither acquirin Control of another company may quiring the assets of rarget Company OF acquiring a controting interest (usually over 50%) i 4 ing common stock 4) in the tar, n acquisition of assets, all of the company's assets are acquired di dna any. Inenost cases, existing nbs of the aequired oonpuyae When assets are acquired and liabilities are assumed, the transaction is referred tt acquisition of "met assets", Payment may be made in cash, exchanged proy oe issuance of either debt or equity securitics. Business combinations may be cad legally either by statutory consolidation or statutory merger. Statutory consi Bie refers to the combining of two or more existing legal entities into one new le; f a The previous companies are dissolved and are then replaced by the new oa f company. A statutory merger refers to the absorption of one or more existing led entities by another existing company that continues as the sole surviving legal entit a absorbed company ceases to exist but may continuc as a division of the surviving company. In astock acquisition, a controlling interest (typically, more than 50%) of another company’s voting common stock is acquired. The acquiring company is termed as the parent (also the acquirer), and the acquired company is termed as a subsidiary (also the acquire). Both the parent and the subsidiary remain separate legal entities and maintain their own financial records and statements. However, for external financial reporting! the companies will usually combine theit individual financial statements: into a single set of consolidated statements. METHODS OF BUSINESS COMBINATIONS two methods were used to account for business hase method and the pooling of interests method. ities of the acquired company are usually rimary method in use. Howevet, allowed, The pooling of interest their book values. Prior to the issuance of IFRS 3, combinations. These were the purc! Under the purchase method, all assets and liabil recorded at fair value. The purchase method was the p under some cases, the pooling of interests method was recorded the assets and liabilities of the acquired company at (FRS 3 eliminated the pooling of interest method. Scanned with CamScanner= SS a~_—_—_—_——(assss— Business Combinations 7 ACQUISITION ae MET} COMBINATIONS © THOD OF ACCOUNTING FOR BUSINESS IFRS 3 requires pea that all busi acquisition method (cal Tease combinations be accounted for by applying the determine whether a transactic purchase method" in the 2004 version of IFRS 3). To the application ofthe newton ‘other event is a business combination, four steps in equisition method are to be used as follows: (1) - Identify the acquirer, “-Q) Petermin the acquisition de. 1) Rocemnine tg consideration given (price pid) by the est any non’ Gsbfecllica tae the identifiable assets acquired, the fiabilities assumed and resulting e Ie interest (formerly called minority interest) in the: acquiree. Any goodwil or gain from a bargain purchase should be recognized. ; Identify i : assets pba rpeocs ari ie ea asset acquisition, the company transferring cash or other acquirers, Gmmnoat or ilities is the acquiring company. Ina stock acquisition, the intrest in the voti ,, the company transferring cash of other assets for! acontrolting stock accquisit ting common stock of the acquiree (company being acquired). Some the tions may be accomplished by exchanging voting common stock. Usually, e company issuing the voting common stockis the acquirer. Insome cases, theacquiree may issue the stock in the acquisition. This "reverse acquisition" may occur when a publicly traded company is acquired by aprivately traded company. The appendix at the end of Chapter 15 considers this case and provides the applicable accounting procedures. ’ e date on which the acquirer obtains Determine the Acquisition Date. This is the the date on which the acquirer obtains ~ control of the acquiree. TERS 3 explains that control of the acquiree is generally the date ‘onwhich the acquirer legally transfers the consideration, acquires the assets and assures the liabilities of the acquire —the closing, date. However, the acquirer should consider all pertinent facts and circumstances in identifying the acquisition date, and it might be that control ig achieved ona date that is earlier or later than the closing date. For example, the acquisition date precedes the closing date ifa written agreement provides that the acquirer obtain control of the acquiree ona date before the closing date. iscritical becauseitis the date used to establish the fair value of the The acquisition date , company acquired, and it is usually the date that fair values are establ accounts of the acquired company. Scanned with CamScanner ished for the¢ Chapter J Generally, the consideration given (price pai ir value of the acquiree as an ent IFRS combination to be measured at fair vz -date fair values of: 8 a —— tion Given. ine the Cee to be the fi by the acquit eration given ina business Thi es ated fas the sum of the acquisiti aoa irer. : sect trator ie ace to former owners of the aequiree; and ~ equity interests issued by the acquirer. « samation include cash, other assets, contingent consideration, ordi Usual formsof consideration in warrants and member interests of mutual entiti orproference equity instruments, ' Contingent Consideration i jderation is defined in the Standard as "usually, an obligation of eat ne Tonal assets or equity interests to the former owners of Se re ‘as part of the exchange for control of the acquire if specified future events ordonsiderationsare met”. However, contingent consideration may also give the acquit the right to the retum of previously transferred consideration if specified conditions met. The specified future events may be in the form of meeting a specified level earnings, reaching a specified share price or reaching a certain milestone in develop projects. : Contingencies in a business acquisition may take the form of an additional considerati payable by the acquirer to the former owners of the acquire, conditional upon th acquire achieving a certain maintainable profit. Another contingency is in the form of guarantee of the value of securities issued by the acquirer, who may have to issu additional securities to the former owners of the acquire if the value of the origi securities issued falls below the guaranteed value. The Standard clarifies that the consideration that the acquirer transfers in exchange fc the acquire includes any asset or liabilities resulting from a contingent considerati arrangement. The acquirer shall recognize the acquisition-date fair value of contingent consideration as part of the consideration transferred in exchange for the acquire (without regards to the probability of contingency crystallizing in the future periods. The acquirer shall classify an obligation to pay contingent consideration as a liability or as equity on the basis of the definitions of an equity instrument and a financial liability in IAS 32 financial Instruments. For example if the contingent consideration takes the form of additional cash consideration payable, it shall be classified as a financial liability. Ifthe contingent consideration is in the form of issuing additional equity instrument, it shall be classified as an equity instrument. A contingent consideration included in the cost of combination, which relates to probable cash amount payable in the future, shall be measured at its present value \scounting the future amount at the acquirer's current borrowing cost. Scanned with CamScannerwines Combinations Jegal, and other prc ssi ita armies sto +k Issuance Costs yy acquired and are expensed. en the acquirer j issues osts suchas SEC regi shares of stock f¢ i fees are treated aeadehone fees, sock fr he 0 ae 0 issuance. In case BIC from additional paid in capital CE ns tr - as acontra account a ee ts zero, the remaining stock issuance costs is ilippine Interpretation Committee). earnings presente as a sepratline Hem Record and Ds fair v Sera the Acquiree's Assets and Liabilities that are Assumed. Ee rded Fair valuc deni — and liabilities of the acquiree are dand r e amount that the asset or Yiability would be bo Nd in acurrent, normal sale between willing patties. . Re The total of all sinisable sts ew initrd eeeOOa RCE Ty the net assets. The identifiable assets should never include go i existon he acquiree's books. The only g jwill recorded in an.acdl isitionis "new" goodwill =d on the price paid by the acquirer. The fair ‘value of the net assets recorded is not kely to be equal to the price paid by the acquirer. Price paid exceeds the, fair values assigned to net assets. The excess of the price } e assigned to netassetsis "new" goodwill. The goodwill recorded is isi pairment tested in future accounting per «1 is less than. fair yalues assigned to net assets. Where the price paid i dto the net assets, & "bargain purchase" ha is I i ‘an the fair value assigne' ‘ actually Te excess of the fair value assigned to the net assets over the price paid ain" on the acquisition by the acquirer. recorded asa"8 OF JDENTIFIABLE. ASSETS AND LIABILITIES U ATION jabiliti i jr individue Je, assets and liabilities acquired are recorded at their in Asa eet ere les. The preferred metho is quoted market ‘value, where 2” ee tbe item exists. Where there is no active market, independen pe ES market ied cash flow analysis, and other types of analysis are used to yu Scanned with CamScanner10 pieces a (occ Chapter 13. The acquiring company is not required to establish values i i ly 18) m is lues immediatel: couisit date. A measurementiparted of up to one year is allowed for Anaiemnene Toten ‘alucs would be usedin financial statements prepared prior tothe end ofthe pence note to the financial statements would explain the use of t ny change in the recorded values is adjusted retroactively to the date of, ogee sition, Prior-period statements are revised to reflect the final values and any related amortizati ; ions. Some guidance on the measurement of fait value as provided in the IFRS, are explained below: Cash and Cash Equivalents, Short-term. Monetary Assets and Deferred a Cash and cash equivalents and short-term monetary assets gi inoured = apne at peo ee which is normally equal to their icovaaned jue. Forexample, cash an equivalents gi recorded, i value of the amount transferred. : a diet Deferred consideration is measured and recorded at the present value of the considerati a Ny ‘considerati and not at the nominal value of the payable. The rate of discounting is the acqu ae current borrowing cost. 4 Mlustration 13-2 P Company acquires S Company on January 1, 2017. Included in the purchase consideration is an amount of P5 million payable on January 1, 2019. P Company's borrowing cost on acquisition date is 8% per annum. of the deferred consideration that should be included in the cost of The fair value combination is computed below: Present value = P5,000,000 /(1 +0.08)= P4,286,694 acquisitions given below: The journal entry to be recorded on the date of 286,694 ot 4,286,694 Cost of combination Deferred liability Scanned with CamScannerun Ss this Hint ee ae niche cope t Ability Rhine sot shoud he nreared to 5,000,000 on nee cost in profit and loss, The journal entries tthe end of the J. \ . u Year, Finan g Defeat (8% x 4 ferred tignigig 8.94) \y 342,936 tend of the 2nd year: 342,936 Finance cost 1 [8% Deferred light 9022 * 342,936) 370,370 : 370,370 Upon payment ul Deferred liability Cash 5,000,000 5,000,000 | Equity Instruments Transferred E _ Equity instr 7 ° Be ents ae are measured at their fair value. For quoted equity date) of a quoted eee price at the date or exchange (whichis the acquisition ns ’ r : nied | yalue and shall be used. rument provides the best evidence: of the instrument's fair the published price at the date of exchange is an unreliable indicator orif published ‘ce does not exist for equity instruments (for example unguoted equity shares) issued the acquirer, the fair value of ‘those instruments could, for example, be estimated by reference to their proportional interest inthe fair value of the acquirer orby reference to whicheveris the more proportional interest in the fair value of the acquite' obtained, clearly evident. - Non-Financial Assets Transferred rence to their market prices, ; + i ets given shall be measured by refer por a ile al independent valuations or other available information relevant » Gor example, & Janded property transferred to the former owners ofa a pee aloes of the purchase consideration shall be measured at its snark isiti Ifthe fair value differs from) the carrying amount as 3 Evalue atthe oo i rremeasures the carrying amount to fair value and Joan in profit or Joss (IFRS 3.38). Scanned with CamScannerChapter 13 as bination inchides liabilities incurred or assumed by the acai uiree. Future losses or other costs expected abd not liabilities incurred or assumed by the e Jusiness com ‘a the acq o exchange for control of the acqy in exchange (alt ofa. combination are range for control of the acquiree, and are not, therefore, included aS part Theeost ofa incurred as & inexel acquirer of the cost Whena property acquirer shall measu 1 ’ rather than at their fair value, so that it does not recognize a gain or loss in both before and after the business combination (IFRS 3.38). ofcombination. is transferred to the acquire rather than to its former shareholders, the the | ure the non-monetary assets transferred at their carrying amounts profit or loss, Tiustration 13-3 P Ltd acquires | 100% interest in the equity shares of S Ltd from two control shareholders on January 1, 2017. The terms of the business combination include: @ PLtdshall pay an amount of P10 million to the two controlling shareholders of § ling Gi) P Ltd shall inject a property into S Ltd. The carrying amount of the property in the accounts of P Ltd at acquisition date is P20 million. The fair market value of the property at acquisition date is P30 million; (ii) P Ltd shall assume the bank loans of P5 million taken by the two controlling shareholders when they invested in S Ltd; and ~ iv) P Ltd shall bear the future losses and future restructuring costs of S Ltd, estimated at P6 million. ! The cost of combination is computed as follows: Cash consideration Pi0million Liabilities assumed Smillion Property transferred at carrying amount 20million Cost of combination _35million mount not at their fair valueat the bined entity after the business cluded in the cost ofthe Che property transferred is measured at the carrying ar id expenses in the post tequisition date because it remains within the com| ‘combination. The future losses and restructuring costs are not inc ‘usiness combination, but shall be accounted for as losses an ombination period when they are incurred. Scanned with CamScannerBusiness Combinatiyn, ee tone 13 nasa seca D aati se cma Assets wit | ne ih Vnceriain Cash Flows (valuation allowances) ACquITer is NOt Hers, acquisition date fornsaon 0 recognize a separate valuation allowance as of the acquisition-cate fair yats tM in abusiness combination that are measured at theit are included in the fair Nes because the effects of uncertainty about future cash flows acquirer to measure ac, Value measured. For example, because IFRS 3 requires the values, the acquirer dost dTeceivables, including loans, at heir acquisition-date fair ‘Ocs Not recognize a separate Valuation allowance for the contractual at are deemed to be uncollectible at that date. [IFRS 3 (2008)] a The principle of" , each thal! a ao Valuation allowance" also applies to property, plant and equipment amount, and nove esiness combination, such assets are stale at a single fair value Bross "deemed cost" and accumulated depreciation. Unrecognized Assets and Liabilities The acquirer may recognize so) ee, F ‘ caeear me assets and liabilities that the acquiree had not previously recognized in its financial statements, “ om = APPLYING THE ACQUISITION METHOD As mentioned earlier, control of another company may be achieved either by the acquisition of net assets or by acquisition of stock. ACQUISITION OF NET ASSETS Let us assume that the company to be acquired by Acquirer, Inc., has the following Statement of Financial Position on June 30, 2017: J&JCompany ‘Statement of Financial Position June 30, 2017 Cash P 200,000 Current liabilities P 125,000 Marketable securities ae Bonds payable 500,000 500,00 oy 150,000 - Common stock (P! par) $0,000 i 750,000 Additional paid in capital 700,000 Building (net) Equipment (net) 400,000 Retained earnings 2,300,000 Total liabilities and equity Total assets Scanned with CamScannerChapter 13 te mbave been measured a of Fine 30,2017 as fol: accounts have Fajewalues for all rato sh 330,000 Gaal able securities 350000 “— iy 360,000 inventor) 3000 Land \ Building 700,000 Equipment 225,000 3,265,009 nrecognired receivables . 65,000 vith P125,000 Se aatinead 500,000 Bonds pays Premium on bonds payable 20,000 15,000 Fair value of net identifiable assets P2000 BOOKS OF THEACQUIRER Accounting Procedures in Recording the Acquisitions The basic accounting procedures to record the acquisition of net asset are as follows: * Allaccounts identified are measured at estimated fair value, This is always the case even ifthe consideration given for a company is less than the sum of the fair values of the net assets acquired (assets less liabilities assumed, P2,620,000 in the illustration). * Ifthe total consideration given fora company exceeds the fair value of its net identifiable assets (P2,620,000), the excess price paid is tecorded as goodwill * — Ifthe total consideration givenfora Company is less than the fair value ofits net identifiable assets (1 P2,620,000), the excess of net assets over the price paid is Before recording the. acquisition, the acquirer should calculate the difference benveen price paid and the fair value of the net assets acquired. Case 1: Price Paid exceeds the Sair value of net identifiable assets acquired. Acquirer Ino, issues 80,000 shares of its P10 par value common stock with a market value of P40 each for J & J Company's net assets, Acquirer, Ine. pays professional [evs of, 50,000 to accomplish the acquisition and stock issuance costs of P30,000. Scanned with CamScannerCombinations iid (Consideration — flue of net identifienn ee 80,000 shea ge ble agora oe stares x P40 ue sets acquired from] Pa.200900 (2620/0) a fees (expense) P 580,000 Issuc Costs (reduction fj rom additi . P50, e m additional paid-in capital) an a 7 Bniries recorded by . ‘ y the Acquirer, Inc. are as follows: Torecord the aa ® Net assets acquired including the new goodwill: Cash Marketable securities pai Inventory: ’ Land 5000 Building 900,000 Equipment Oe 700,000 Receivables-trade 225,000 Goodwill 580,000 Current liabilities ig 125,000 Bonds payable , _ 500,000 Premium on bonds payable 20,000 Common stock (P10 par, 80,000 shares issued) 800,000 “Additional paid in capital (P30 x 800,000 shares) 2,400,000 2) Torecord acquisition-related costs: Acquisition expense 50,000 “tdaitional paid in capital 30,000 Cash 80,000 Scanned with CamScannerChapter 13 16 — q Price paid is less than fair value of net identifiable assets acquired: Case 2: irer, Inc, issues 20,000 shares of its P115 par value common stock with a market Acquirer, 4 Acq J& J Company's net assets. Acq uirer, Inc. pays Professic, ero Bere eeceunptish the acquisition and stock issuance costs of P} 30,000, fees of P50, Analysis: ideration gi P120 market value 2,400,000 id (consideration given), 20,000 shares x 400, fur whe sr net identifiable assets acquired from J & J Company (2.620.000) Gain on acquisition (Bargain purchase) 2C220,000) I fees (expense) P 50,000 Professional (expe 130,000 Stock issuance costs (reduction from additional paid in capital) Inc. to record the acquisition and related costs are as Entries recorded by Acquirer, follows: (1) Torecord the acquisition of net assets: Cash 200,000 Marketable securities 330,000 Inventory 550,000 Land 360,000 Building 900,000 Equipment 700,000 Receivables — trade 225,000 Current liabilities 125,000 Bonds payable 500,000 Premium on bonds payable 20,000 Common stock (20,000 shares x P115 par) 2,300,000 Additional paid in capital (20,000 shares x P5) 100,000 Gain on acquisition 220,000 2) Torecord acquisition-related costs: Acquisition ( ; Additional Pall capil 20.000 issuance cow, 100,000 Cash 30,000 180,000 Scanned with CamScannersss Combinations Howi eed ollowing should be noted from the entries of th sof the: acquit The stock issuance with the excess bei ‘ceed the additional paid in capi me treated as sees being debited sien id acl ated ce statement of financi: Count ftom retained eamit . This account should be offinancial position, camnings under the equity section of the The gain must be 4 reported asa sey as incom Dorie as a separate line item i 5 ¢ of the acquirer in the ‘odetthin a Recording Conti: i ig Contingent Consideration in Acquisition of Net Assets sing the data in J & J Company (Case 1) assume that Acquirer In. issved 80,000 hares with a market value ofP3,200,000. In additionto the stock issued, the acquit to payan additional P200,000 on January 1,2018, ifthe average income for the 2-year period of 2016 and 2017 exceeds P160,000 per year. The expected value is estimated at P100,000 based on the 50% probability of achieving the target average income. The revised analysis ofthe difference betweenthe price paid and te far valne of the net assets acquired and the entries to record the: acquisition are presented below and on the “next page. Analysis Total price paid: Stock issued at market value ‘ 3,200,000 5 Estimated value of contingent consideration 100,000 P3,300,000 Fair value of net assets acquired from J &J Company 2,620,000) , Goodwill P 680,000 Pp 50,000 Acquisition-related costs: 30,000 professional fees (expense) stock issuance costs (reduction from APIC) Scanned with CamScanner“a —_———— 18 fis Hes —— the acquisition of net assets and the acquisition: related costs are as Entries to recor aon fue including the new goodwill i uc inclu i w orecond the net assets nequired at fit va 20,000 cuk . 330,000 Marketable securities 530,000 ae 360,000 nda 900,000 7 700,000 pment ‘ Foetvbles~ ade 225,000 Goodwill z Current liabilities : os pep Bonds payable A Premium on bonds payable ; 20,000 Contingent consideration payable 190,000 Common stock, P10 par 800,000 Additional paid in capital 2,400,000 (2) Torecord acquisition-related costs: Acguisition expense 50,000 Additional paid in capital ; 30,000 80;000 Cash Recording Changes in Contingent Consideration Changes that are the result of the acquirer obtaining additional information about facts and circumstances that existed at the acquisition date, and that occur within the measurement period (which may be amaximum of one year from the acquisition date). are recognized as adjustments against the original accounting for the acquisition (and so may affect goodwill). (Changes resulting from events after the acquisition date (e.g. meeting an earnings target) are not measurement period adjustments, Accounting for such change depends on whether the additional consideration is an equity instrument or cash or other assets paid Or owed. If it is equity, the original amount is not remeasured: If the additional een iscash or other assets paid or owed, the changed amount is recognize¢ i" a wee Scanned with CamScannerCombinations during the measureny es : ent peri tional information: the ee the contingent considerati . ‘i ‘ons based ald be adjusted. For a estimated Tiability and Thenoodall(org sin sactastton) vised to P160,000, the 60000 within the measurement period, the estimate was Goodwill -000 increased would be adjusted as follows: Contingent 0 'SeMt consideration payable 80,000 60,000 estimate is again revis . inprofit or loss Afthe late, ised after the measurement period, the adjustment is included tie sheasurement t period. For example, ifthe estimate was revised to P200,000 period, the P40,000 increase would be recorded as follows: Loss on contingent consideratic o wsideration pay. Contingent conatlerdion Pole “am 40,009 aoe en tes on applies to any contingent consideration payable in cash oF a ae an issuing additional shares of stock. An agreement to jssue i stocl upon the occurrence of future eventis treated to be a change in the ¢: i value of the shares issued. No liability is recorded at the acquisition date. The only entry made is at the date when additional shares are issued. Using the example of the acquisition of J & J.Company for P3,200,000, assume that there was an agreement to issue 20,000 additional shares jf the average income during the 2-year period of 201 6 and 2017 exceeded PI 60,000 per year. There would be no change in the entry in Case 1 to record the acquisition on June 30, 2017. Assuming the contingent event occurs, the following entry would bemade after December | 2019, to issue the additional 20,000 shares. 20,000 Additional paid in capital (20,000 shares x P10) Common stock, P10 par 200,000 Jue During Measurement Period Recording Changes in Val During the measurement period, values assigned to accounts recorded as a part of the acquisition may be adjusted to better reflect the value of the accounts as of the acquisition date. Changes in value caused by events that occur after the acquisition date are nota part of this adjustments. They would be adjusted to income in the period they occur. ‘The values recorded on the acquisition date are considered "provisional". They must be used in financial statements with dates priorto the end of the measurement period. The pile caro period ends when the improved information js available oritis obvious thatno better information is available. In no case can the measurement period exceed one year from the acquisition date. Scanned with CamScanner= ee 20 154 100 in Ca Mustration & 1 Company for P3,200,000 in Case 1. of ut : building is provisional. The 2017 financiay x ne accounts for the acquired, J & acquisition en to the : Lest us Ferre edhe value assign hensive incon ‘ “ 40. The values assigned to building gsumie NOW che statement of com », June 2 gear il inelader asthe aquisition molt and projected for 2018 are as follows: "ond to income iting adjustments i and resu! sibs 900,000 rovisional Valve jation metho: "30-year straight-line wi 7 240,000/20 years P12,000 per: Recorded in 2017 (6 months) Projected in 2018 ‘th P660,000 residual value, yea PI ,000 per month, 6,000 12,000 Beiter estimates of values for the building become available in early 2018. The new valuesand revised depreciation are as follows: : j Revised Value 950,000 Depreciation method: 20-year straight-line with P590,000 residual value. 360,000 /20 years = P18,000 per year, P1,500 per month, Adjusted amount for 2017 (6 months) 000 Amount to be recorded in 2018 18,000 The recorded values are adjusted during 2018 as follows: Building (P950,000 - P900,000) 50,000 Goodwill 50,000 Goodall would absorb the impact of the adjustment. Had there been a gain on the peti | genueon a te, the oe would be adjusted at the end of the measurement E ain , ; é ni : wouldbe wa Semen in the prior periods, the entry to adjust the gain The depreciation for 5 Fi 2018 ss ae Ste peri’ mustalso be adjusted retroactively. The entry made in Retained earnis nes 3,000 Accur mulated depreciation — Buildings = Scanned with CamScannerpusiness Combination, oe poOKS OF THE AG 5 QUIRE + using the example of y, ss of The Price rece Nition of 3 & J Company for P3,200,000 in Case I the value ve Net assets gt pry he Requinee (1°1200,000) over the tim of the book 8a gain ON the sale. 173000 (2,300,000 assets ~ P625,000 liabilities) is ty} &I Company are ‘ sale, In thi a fallow thiscase, the gain is P1,525,000. The entries (1) Torecord the sale of the Net assets ssets: Investment in Acquirer, Current liabilities a 3,200,000 Bonds payable 125,000 Cash } 500,000 Marketable securiti eaoed a ‘curities ; 300,000 Land 50.000 Building (net) 750,000 Equipment (net) 400,000 Gain on sale of business 1,525,000 2) To record the distribution of Acquirer, Inc. shares received by its shareholders and the liquidation of J & J Company. Common stock 50,000 Additional paid in capital ' 700,000 Retained earnings 925,000 Gain on sale of business 1,525,000 Investment in Acquirer, Inc. 3,200,000 Financial Statements Following the Acquisition of Net Assets. Statement of Fina nncial Position. Under the acquisition method, the Statement of Financial Position of Acquirer, Inc. after the combination includes all the assets and Kabilities of the J &J Company at fair values, i shensive Income of Stateme: rehensive Income, The Statement of Compre c the Sates ecounting period in which business combination occurred includes _ the operating results of the aoquirec after the date of ‘acquisition only. Scanned with CamScannerChapter 1) ACQUISITION OF STOCK Inn ead noquisition, the ncaqiting company deals onty with existing shareholders of the neguired comipuirty per the company Freolf, To iMustrate, assume that on December 37,2077, P Company Bequiited all 10,000 fssued art outstanding shares of S Company's p100 par value common stock for 72,000,000 cash. In addition. P Company paid prnfessional foce to accomplish the combination of Pt 00,000. The journal entries to rooond the neqitisition of stock and the acquisition-related cost in the books of P Company on December 31, 2017 are as follows: (1) Toreeard the neguisition of stock from S Company: Imvenemen: in subsidiary S Company: 2,000,000 Cah 2,000,000 (2) To record the aoquisition-related costs: Acouivition expense 100.000 Cash 100,000 The above entries do not record the individual underlying assets and liabilities over which control is achieved. Instead, the acquisition is recorded in an Investment account that represents the controlling interest in the net assets of the subsidiary. On the date of acquisition of stock no goodwill or income from acquisition is recorded by the acquirer. These are to be recognized only in the consolidated financial statements. After the acquisition, $ Company will not be dissolved. A relationship now exists that of paren’/subsidiary relationship. P Company is now the parent and S Company is now the subsidiary. Ifno further action is taken, the Investment in Subsidiary account would appear as a long-term investment on P Company's Separate Statement of Financial Position. However, such presentation is permitted only if consolidation were not required (i.e. when contro! does not exist). Assuming consolidated statements are required (i.¢,, when control does exist), the Statement of Financial Position of the two companies must be combined into a sing!¢ Consolidated Statement of Financial Position. Consolidated financial statements ate Prepared on the date of acquisition and on a date subsequent to acquisition. The Accounting process in the preparation of consolidation statements will be discussed in the chapters that follow: Scanned with CamScanner= Busiiess Combinations _ Recognizin, = Sires prewniien Measuring Goodwill ora Gain froma Bargain Purchase | measired as ties that the acquirer shall recognize goodwill as ofthe acquisition date excess of (a) over (b) below: . (a) the te of: @ the consideration transfered measured in coordance withthisTFRS, which (the all requires acquisition-date fair value; i , ae ount of any non-controlling iriterest in the acquirec measured in cordance with this IFRS (which is either based on fair value or proportionate share of net assets); and = ina business combination achieved in tages step acquisition), te aequistion te fair Valuc of the acquirer's previously held equity interest in the acquire. () the net of the atquisition-date amounts of the identifiable assets acquired and liabilities assumed measured in accordance with this IFRS. Note that this represents the most significant change introduced inthe revised TFRS3 Luise: qi) @ __ itrequires that any previously held equityinterest, including investment previously treated as an associate, shall be measured at acqui: fion-date fair value with the change in value recognized in profit and loss; and Gi) _ itallows non-controlling interest to be measured at acquisition-date fair value, which would result in goodwill being recognized in totality rather than based on the acquirer's share. , Mlustration 13-5 On January 1, 2017, PP Inc acquires a 75% equity interest in SS Inc, paying cash consideration of P50 million and issuing 50 million new ordinary shares of PP Inc valued at P2 each to the former owners of SS Inc. On this date, the net fair value of the identifiable assets and liabilities of SS Incis P100 million. The issued share capital of SS Inc consists of 50 million ordinary shares of P| each. On acquisition date, the shares are quoted on the stock exchange at P4 per share. Both PP Incand SS Inc agree that the market valuc is representative of the tair value of SS Inc ~ asa whole. Required: Compute the goodwill on combination and the non-controlling interest in accordance with: (1). the original IFRS 3, and (2) the revised IFRS3 with (a) non-contolling interest measured at fair value and (b) non-controlling interest measured at its proportionate share of net assets. Scanned with CamScannermn 50m pa 100m ns igstred 50m X 1s0@ ary Arconsidertion transfer a pol of net assets acquired 75% x ioe Goodwill on combination im Non-controlling interest at acquisition date: 25% x P100 m 2: 5m SpyBot ass NCI Measured at : Share of net assets Fair value Fair value of consideration transferred 150m 150m Non-controlling interest's share of net assets: 25% x 100m 25 i s a 7 Fair value of non-controlling interest 25% x 200m Carrying/Fair value of SS Inc as a whole 175m 200m Fair value of net assets 100m, 100m Goodwill on combination 75m 100 tm Non-controlling interest: 25% x 100m 25m 4 25% x (100m + 100m) 50m Note that if non-controlling interest is measured based on its proportionate share of the net assets, rather than at fair value, the effect would be the same as the original IFRS 3. In the illustrations that follow, we shall assume that the non- controlling interest is measured at the acquisition-date fair value. Impairment Test for Goodwill After initial recognition, the acquirer shall measure goodwill acquired in a business combination at cost less any accumulated impairment losses in accordance with PAS 36, Impairment of Assets. This standard prohibits amortization of goodwill butit requires {hat goodwill must be tested for impairment annually, or more frequently if events or Bes in circumstances indicate a possible impairment. Scanned with CamScannerBusiness Combinations Recording Contingent Co THustration 13-6 On January 1 2017, Pay te, t nsideration in Acquisition of Stock Lid. On this date. ig et Ltd acquires a 75% interest in the equity capital of Anak million, The the identifiable sets nnd Habiies OF Anak Le valued at P200 the basis af are tinable profits of Anak Ltd are estimated at P40 million per OF Anak Lid is eee etings ratio of 10 times, the fair value of the ordinary 0 Then mete at P 400 milion % Purchase consideration consists of the following terms: v 0 initial payment of P100 million on Jan G wuary 1, 2017, ; ® acho of P10 million payable on January 1, 2018 contingent on the Gi) anamenentof the maintainable profit of P40 million in the first year, and ofthe Of 121 million payable on January 1,2019 contingent onthe achievement ‘© maintainable profit of P40 million in the second year. Anak Ltd's maintainable i ii in the i hable profits have been averaging about P40 million per year i ast five years and it is probable that this evel of profits would be maintaned in the resceable future, Atthe ‘acquisition date, Papa Ltd's borrowing cost is 10% per year. The computation of the cost ofcombinationon January 1,2017 and the goodwill on combination are as follows: Cost of combination: Initial payment : 100 Contingent consideration payable 110/(1.10)1 100 Contingent consideration payable 121/1.10)2 100 Cost of combination i 300 The acquisition cost shall be recorded as follows: Investment in subsidiary 300m Cash 100m Contingent consideration payable 200m The goodwill on combination is calculated as follows: Pm Aggregate of: 1 F ae al jue of consideration transferred 300 Non-controlling interest at fair value (25% x 400) 100 400 Fair value of identifiable net assets (200) Goodwill on combination 200 Scanned with CamScanner