INITIATING ACTIVITY

Now, you know what a business combination is and when to apply the accounting standard on
business combinations. The next step is: What are the accounting procedures to be applied? This
is where acquisition method takes place.
DISCUSSION:
Acquisition method
An entity shall account for each business combination by applying the acquisition method.
Applying the acquisition method requires: (4 Steps)
(a) identifying the acquirer;
(b) determining the acquisition date;
(c) determining the consideration transferred
(d) recognizing and measuring the identifiable assets acquired, the liabilities assumed and any
non‑controlling interest in the acquiree and recognizing and measuring goodwill or a gain from a
bargain purchase.

Step 1. Identify the acquirer

For each business combination, one of the combining entities shall be identified as the acquirer.
The acquirer is the entity that obtains control of another entity, i.e. the acquiree.
Step 2. Determine the acquisition date
The acquirer shall identify the acquisition date, which is the date on which it obtains control of
the acquiree.
The date on which the acquirer obtains control of the acquiree is generally the date on which the
acquirer legally transfers the consideration, acquires the assets and assumes the liabilities of the
acquiree—the closing date.
However, the acquirer might obtain control on a date that is either earlier or later than the closing
date.
For example, the acquisition date precedes the closing date if a written agreement provides that
the acquirer obtains control of the acquiree on a date before the closing date. An acquirer shall
consider all pertinent facts and circumstances in identifying the acquisition date.
Step 3. Consideration Transferred
The consideration transferred in a business combination shall be measured at fair value, which
shall be calculated as the sum of the acquisition-date fair values of the assets transferred by the
acquirer, the liabilities incurred by the acquirer to former owners of the acquiree and the equity
interests issued by the acquirer.
Examples of potential forms of consideration include cash, other assets, a business or a
subsidiary of the acquirer, contingent consideration, ordinary or preference equity instruments,
options, and warrants.

Acquisition related costs.

Acquisition-related costs are costs the acquirer incurs to effect a business combination. Those
costs include finder’s fees; advisory, legal, accounting, valuation and other professional or
consulting fees; general administrative costs, including the costs of maintaining an internal
acquisitions department; and costs of registering and issuing debt and equity securities. The
acquirer shall account for acquisition-related costs as expenses in the periods in which the
costs are incurred and the services are received, with one exception. The costs to issue debt or
equity securities shall be recognized in accordance with IAS 32 and IFRS 9.

RECAP:
Under IAS 32, an entity typically incurs various costs in issuing or acquiring its own equity
instruments. Those costs might include registration and other regulatory fees, amounts paid to
legal, accounting and other professional advisers, printing costs and stamp duties. The transaction
costs of an equity transaction are accounted for as a deduction from equity (generally to share
premium) to the extent they are incremental costs directly attributable to the equity transaction that
otherwise would have been avoided.
Example: If an corporation issued 100,000 ordinary shares with P2 par value and fair value of P3
per share in exchange for Land. The journal entry will be:

Land 300,000
Common Stock (100,000 x 2) 200,000
Additional paid in Capital*(100,000x1) 100,000
*other term is share premium

If the corporation paid transaction costs for such issuance otherwise called “stock issuance costs”
in the amount of 20,000, the entry will be:

Additional Paid in Capital 20,000

Cash 20,000
To record stock issuance costs
Additional paid in capital (APIC) is debited because transaction costs from equity issuance is a
deduction to equity.

Under IFRS 9, If the liability is measured at amortized cost, the cost to issue debt is amortized
using effective interest method. However, if the liability is measured at fair value through profit or
loss, cost to issue debt shall be expensed outright (profit or loss).

Step 4. Recognize and measure the acquiree’s assets and liabilities, and recognize goodwill or
gain from bargain purchase.
Identifiable assets and liabilities
As of the acquisition date, the acquirer shall recognize, separately from goodwill, the identifiable
assets acquired, the liabilities assumed and any non-controlling interest in the acquiree.

Note: Non-controlling interest shall be covered in another module.

Unrecognized assets and liabilities

The acquirer may recognize some assets and liabilities that the acquiree had not previously
recognized in its financial statements.
Measurement
As a rule, the acquirer shall measure the identifiable assets acquired and the liabilities assumed
of the acquiree at their acquisition-date fair values except:
a. Deferred tax assets and liabilities (PAS 12)
b. Employee benefits (PAS 19)
c. Leases (PFRS 16)
d. Share based payments (PFRS 2)
e. Assets held for sale (PFRS 5)
f. Insurance contracts (PFRS 17)

Accordingly, the above exceptions shall be measured according to their respective standards.
Acquirer’s own asset and liabilities
The assets and liabilities of the acquirer should not be adjusted to fair value. Only the identifiable
assets of the acquiree is measured at acquisition date fair value.
Goodwill
The acquirer shall recognize goodwill as of the acquisition date measured as the excess of (a)
over (b) below:
(a) the aggregate of:
(i) the consideration transferred

(ii) the amount of any non‑controlling interest in the acquiree*

(iii) in a business combination achieved in stages*

(b) the net of the acquisition‑date amounts of the identifiable assets acquired and the liabilities
assumed

*to be discussed in the succeeding modules

Goodwill is an intangible asset separately presented from other intangible assets.
Bargain purchases
Occasionally, an acquirer will make a bargain purchase, which is a business combination in which
(b) exceeds the aggregate of the amounts in (a).
The gain shall be attributed to the acquirer and is to be presented in profit or loss.
ILLUSTRATION 2.1: ACQUISITION METHOD (NET ASSETS) - MERGER

On December 1, 2020 A and B Corporation come to an agreement where A will acquire all the
net assets of B for 1.5M on December 31, 2020.
On December 31, 2020, A Corporation paid P 1,500,000 cash to B corporation to acquire all of
B’s net assets. A corporation also paid acquisition related costs of 30,000 (professional fees).
A Corporation’s December 31, 2020 statement of financial position presents the following:
Assets
Cash 2,500,000
Accounts Receivable 1,050,000
Inventory 1,200,000
Land 3,000,000
Building (net) 2,500,000
Total Assets 10,250,000

Liabilities and Equity

Accounts Payable 2,000,000
Bonds Payable 2,000,000

Common stock (P1 par) 4,500,000

Additional paid in capital 1,200,000
Retained earnings 550,000

Total Liabilities and Equity 10,250,000

The assets and liabilities of A at December 31, 2020 are properly valued, except:
1. Inventory should have a value of 1,100,000
2. Land should be valued at 2,500,000

B Corporation’s December 31, 2020 statement of financial position presents the following:

Assets
Cash 100,000
Accounts Receivable 250,000
Inventory 200,000
Trademark 50,000
Land 500,000
Building (net) 350,000
Total Assets 1,450,000

Liabilities and Equity

Accounts Payable 100,000
Bonds Payable 400,000
 Common stock (P1 par) 500,000
Additional paid in capital 200,000
Retained earnings 250,000

Total Liabilities and Equity 1,450,000

The assets and liabilities of B at December 31, 2020 are properly valued, except:
3. Inventory should have a value of 150,000
4. An unrecognized intangible asset (franchise) valued at 40,000

Apply the acquisition method

Step 1. Identify the acquirer.
In this example there are two entities: A and B
A Corporation is the acquirer because A corp. transfers consideration (i.e. Cash) to acquire all
the net assets of B. Also, it is clear that A has control because it acquired all the net assets of B.
B is a business because it is an established corporation with assets and liabilities that is capable
of being conducted and managed for the purpose of providing goods or services to customers.
Step 2. Determine the Acquisition Date
The acquisition date is December 31, not December 1.
Even though the agreement was dated December 1, 2020, there is no specific agreement that A
corp. will obtain control on December 1. Therefore, A corporation will obtain control on December
31, 2020 – the date where consideration is transferred.
The determination of the acquisition date is important because the identifiable assets and
liabilities are measure at ACQUISITION DATE FAIR VALUE.
Step 3. Determine the consideration transferred
Consideration transferred should be at fair value.
There is no problem because only P1,500,000 cash was transferred.
The acquisition related costs shall not form part of the consideration transferred.
Step 4. Recognize and measure the identifiable assets and liabilities and recognize goodwill or
gain on bargain purchase
Identifiable assets and liabilities
As a rule, assets and liabilities of acquiree should be at acquisition date fair value.
Note that all assets and liabilities of B are at acquisition date fair values except inventory and an
unrecognized intangible asset – franchise.
 Comparison of Book Value and Acquisition date fair value of B Corporation:

Assets Book Value Acquisition date Fair Values

Cash 100,000 100,000
Accounts Receivable 250,000 250,000
Inventory 200,000 150,000
Trademark 50,000 50,000
Franchise - 40,000
Land 500,000 500,000
Building (net) 350,000 350,000

Total Assets 1,450,000 1,440,000

Liabilities and Equity

Accounts Payable 100,000 100,000
Bonds Payable 400,000 400,000

Common stock (P1 par) 500,000

Additional paid in capital 200,000
Retained earnings 250,000

Total Net Assets 940,000

Goodwill or gain from bargain purchase

The goodwill is computed:
Total consideration transferred 1,500,000
Less: Acquisition date fair value of net assets (940,000)
acquired
Goodwill (gain on bargain purchase) 560,000

If the total consideration transferred is higher than the acquisition date fair values of net assets
acquired, there is a goodwill arising from the business combination.
If the total consideration transferred is less than the acquisition date fair values of net assets
acquired, there is a gain from bargain purchase.

Journal entries in relation to the business combination:

A Corporation’s Books Dr. Cr.

Cash 100,000
Accounts Receivable 250,000
Inventory 150,000
 Trademark 50,000
Franchise 40,000
Land 500,000
Building (net) 350,000
Goodwill 560,000
Accounts Payable 100,000
Bonds Payable 400,000
Cash (consideration given) 1,500,000
To record identifiable assets and liabilities of acquiree and
recognize goodwill

Professional Fees(closed to Retained earnings) 30,000

Cash 30,000
To record acquisition related costs

After the business combination, the statement of financial position of A Corporation on December
31, 2020, at the date of acquisition:
Assets
Cash 1,070,000
Accounts Receivable 1,300,000
Inventory 1,350,000
Goodwill 560,000
Trademark 50,000
Franchise 40,000
Land 3,500,000
Building (net) 2,850,000

Total Assets 10,720,000

Liabilities and Equity

Accounts Payable 2,100,000
Bonds Payable 2,400,000

Common stock (P1 par) 4,500,000

Additional paid in capital 1,200,000
Retained earnings 520,000

Total Liabilities and Equity 10,720,000

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ACTIVITY 2.1 – DO IT YOURSELF
Apply the 4 Steps of the acquisition method, record the transactions and present the statement
of financial position immediately after the business combination.

On December 1, 2020 P and S Corporation come to an agreement where P will acquire all the
net assets of S by issuing 1,000,000 ordinary shares with P1 par. The shares have a fair value of
1.20 per share on the date of agreement.
On December 31, 2020, P Corporation issued the 1,000,000 ordinary shares to S corporation to
acquire all of latter’s net assets. On such date, the shares have a fair value of 1.50 per share.
P corporation also paid acquisition related costs of 30,000 (professional fees). Moreover, P
corporation paid 50,000 in stock issuance costs.
P Corporation’s December 31, 2020 statement of financial position presents the following:
Assets
Cash 2,500,000
Accounts Receivable 1,050,000
Inventory 1,200,000
Land 3,000,000
Building (net) 2,500,000
Total Assets 10,250,000

Liabilities and Equity

Accounts Payable 2,000,000
Bonds Payable 2,000,000

Common stock (P1 par) 4,500,000

Additional paid in capital 1,200,000
Retained earnings 550,000

Total Liabilities and Equity 10,250,000

The assets and liabilities of A at December 31, 2020 are properly valued, except:
1. Inventory should have a fair value of 1,100,000
2. Land should be fairly valued at 2,500,000

B Corporation’s December 31, 2020 statement of financial position presents the following:

Assets
Cash 100,000
Accounts Receivable 250,000
Inventory 200,000
 Trademark 50,000
Land 500,000
Building (net) 350,000
Total Assets 1,450,000

Liabilities and Equity

Accounts Payable 100,000
Bonds Payable 400,000

Common stock (P1 par) 500,000

Additional paid in capital 200,000
Retained earnings 250,000

Total Liabilities and Equity 1,450,000

The assets and liabilities of B at December 31, 2020 are properly valued, except:
1. Inventory should have a fair value of 150,000
2. An unrecognized intangible asset (franchise) fairly valued at 40,000
3. Land should be fairly valued at 600,000

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Contingent Consideration
It is an obligation of the acquirer to transfer additional assets or equity interests to the former
owners of an acquiree as part of the exchange for control of the acquiree if specified future events
occur or conditions are met.
Contingent consideration is measured at acquisition date fair value. The problem with contingent
consideration is the uncertainty in its measurement.
Some changes in the fair value of contingent consideration that the acquirer recognizes after the
acquisition date may be the result of additional information that the acquirer obtained after that
date about facts and circumstances that existed at the acquisition date. Such changes are
measurement period adjustments.
However, changes resulting from events after the acquisition date, such as meeting an earnings
target, reaching a specified share price or reaching a milestone on a research and development
project, are not measurement period adjustments.
The acquirer shall account for changes in the fair value of contingent consideration that are not
measurement period adjustments as follows:
(a) Contingent consideration classified as equity shall not be remeasured and its subsequent
settlement shall be accounted for within equity.
(b) Other contingent consideration shall be measured at fair value at each reporting date and
changes in fair value shall be recognized in profit or loss.
Measurement period
If the initial accounting for a business combination is incomplete by the end of the reporting period
in which the combination occurs, the acquirer shall report in its financial statements provisional
amounts for the items for which the accounting is incomplete.
During the measurement period, the acquirer shall retrospectively adjust the provisional amounts
recognized at the acquisition date to reflect new information obtained about facts and
circumstances that existed as of the acquisition date and, if known, would have affected the
measurement of the amounts recognized as of that date.
During the measurement period, the acquirer shall also recognize additional assets or liabilities if
new information is obtained about facts and circumstances that existed as of the acquisition date
and, if known, would have resulted in the recognition of those assets and liabilities as of that date.
The measurement period ends as soon as the acquirer receives the information it was seeking
about facts and circumstances that existed as of the acquisition date or learns that more
information is not obtainable. However, the measurement period shall not exceed one year from
the acquisition date.
The measurement period is the period after the acquisition date during which the acquirer may
adjust the provisional amounts recognized for a business combination.
The acquirer shall consider all pertinent factors in determining whether information obtained after
the acquisition date should result in an adjustment to the provisional amounts recognized or
whether that information results from events that occurred after the acquisition date. Pertinent
factors include the date when additional information is obtained and whether the acquirer can
identify a reason for a change to provisional amounts. Information that is obtained shortly after
the acquisition date is more likely to reflect circumstances that existed at the acquisition date than
is information obtained several months later. For example, unless an intervening event that
changed its fair value can be identified, the sale of an asset to a third party shortly after the
acquisition date for an amount that differs significantly from its provisional fair value measured at
that date is likely to indicate an error in the provisional amount.
The acquirer recognizes an increase (decrease) in the provisional amount recognized for an
identifiable asset (liability) by means of a decrease (increase) in goodwill. However, new
information obtained during the measurement period may sometimes result in an adjustment to
the provisional amount of more than one asset or liability.
During the measurement period, the acquirer shall recognize adjustments to the provisional
amounts as if the accounting for the business combination had been completed at the acquisition
date.
After the measurement period ends, the acquirer shall revise the accounting for a business
combination only to correct an error in accordance with IAS 8 Accounting Policies, Changes in
Accounting Estimates and Errors.
ILLUSTRATION 2.2 – CONTINGENT CONSIDERATION AND MEASUREMENT PERIOD
Using the information from illustration 2.1, assume additional information as follows:
On December 31, 2020 A will pay an additional consideration of 100,000 cash if the average
income for 2020 and 2021 of B exceed 150,000 per year. The expected value is estimated at
75,000 based on the 50% probability if achieving the target average income.
On June 1, 2021 information was gathered that existed on the acquisition date that the best
estimate of fair value contingent consideration on acquisition date should be P100,000.

Using the additional information:

Goodwill or gain from bargain purchase
The goodwill is computed:
Cash 1,500,000
Contingent consideration 75,000
Total consideration transferred 1,575,000
Less: Acquisition date fair value of net assets (940,000)
acquired
Goodwill (gain on bargain purchase) 635,000

Journal entries in relation to the business combination:

A Corporation’s Books Dr. Cr.

Cash 100,000
Accounts Receivable 250,000
Inventory 150,000
Trademark 50,000
Franchise 40,000
Land 500,000
Building (net) 350,000
Goodwill 635,000
Accounts Payable 100,000
Bonds Payable 400,000
Cash (consideration given) 1,500,000
Contingent consideration payable 75,000
To record identifiable assets and liabilities of acquiree and
recognize goodwill

Professional Fees(closed to Retained earnings) 30,000

Cash 30,000
To record acquisition related costs
The information on June 1, 2021 refers to facts that existed on acquisition date. Moreover, it is
within the threshold period of 1 year from acquisition date. Therefore, it is a measurement period
adjustment that can increase/decrease the amount of goodwill or gain on bargain purchase. The
journal entry will be as follows:

Goodwill 25,000
Contingent consideration payable (10,000 -75,000) 25,000

Why was goodwill affected?

Because the total acquisition date fair values of the net assets of B will decrease by 25,000
because of the credit to contingent consideration payable.
SUMMARY

• Applying the acquisition method requires: (4 Steps)

(a) identifying the acquirer;
(b) determining the acquisition date;
(c) determining the consideration transferred; and
(d) recognizing and measuring the identifiable assets acquired, the liabilities assumed and
any non‑controlling interest in the acquiree and recognizing and measuring goodwill or a
gain from a bargain purchase.
• As a rule, the acquirer shall measure the identifiable assets acquired and the liabilities
assumed of the acquiree at their acquisition-date fair values
• The assets and liabilities of the acquirer should not be adjusted to fair value. Only the
identifiable assets of the acquiree is measured at acquisition date fair value
• Goodwill is the excess of the total consideration transferred over the acquisition date fair
value of the net assets of the acquiree.
• Contingent consideration is an obligation of the acquirer to transfer additional assets or
equity interests to the former owners of an acquiree as part of the exchange for control of
the acquiree if specified future events occur or conditions are met.
• The measurement period is the period after the acquisition date during which the acquirer
may adjust the provisional amounts recognized for a business combination