Business Combinations

IFRS 3

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 A business combination is the bringing
together of separate entities into one
economic entity. As a result of one entity
obtaining control over the net assets and
operations of another entity.

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 Growth
 New markets
 Increase in market share
 Reduction in operating costs
 Diversification
 Tax reasons
 Management incentives

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Three general forms (types) of business
combinations occur
 Merger: One entity retains its identity.
 Consolidation: New entity identity is
created.
 Stock acquisition Parent/Subsidiary
Relationship: All entities maintain identity.

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• Merger: A + B = A
One company acquires a second company and
the second company ceases to exist.
• Consolidation: A+B=C
Two companies form a third company and the
original two companies cease to exist.

• Stock Acquisition Parent & Subsidiaries: A

+B=A+B
One company acquires the common stock of a
second company, and after the transaction both
companies continue to exist.
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 Merger

 Consolidation (Statutory)

 Acquisition

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Fair values at the date of exchange
 assets given, liabilities incurred, equity instruments issued
plus
Other directly attributable costs

 includes directly attributable costs such as fees of accountants,

lawyers, bankers etc.
 excludes general administration costs
 excludes costs of acquisitions department

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- Poppy Corporation issues 100,000 shares of $10 par
common stock for the net assets of Sunny Corporation in
a purchase combination on July 1, 2003.The market price
of Poppy is $16 per share
Additional direct costs
SEC fees $ 5,000
Accounting fees $10,000
Printing and issuing $25,000
Finder and consulting $80,000
How is the issuance recorded?

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How is the issuance recorded in poppy
records?
Investment in Sunny 1,600,000
Common Stock, $10 par 1,000,000
Additional Paid-in Capital 600,000

To record issuance of 100,000 shares of $10 par

common stock with a market value of $16 per share
in a purchase business combination with Sunny.

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How are the additional direct costs recorded?

Investment in Sunny 120000

Cash (other assets) 120,000

To record additional direct costs of combining

with Sunny: $80,000 finder’s and consultants’
fees and $40,000 for registering and issuing
equity securities.

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• when one company owns, directly or
indirectly, over 50% of outstanding voting
shares of another company
• gives parent company ability to establish
subsidiary’s operating and financial
policies and to direct subsidiary’s
economic activities as if they were the
economic activities of one of their
branches or divisions

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• When company A owns, directly 80% of
company B and 40 % of company C. company
B also own 30% of Company C
• Which of the following statements are correct;
A. Company A has control on company C
B. Company B has indirect control on company c
C. Company A has indirect control on company c
D. None of them

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Direct Ownership of Indirect Ownership of
Co. Z by Co. A Co. Z by Co. A

Company A Company A

owns shares in owns shares in

Company Z Company Y
owns shares in

Company Z
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 Parent Company

90% 80%
ownership ownership

Subsidiary A Subsidiary B

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 An acquisition should be accounted for by use of the
acquisition method of accounting
 The acquisition method views a business combination from
the perspective of the combining entity that is identified as
the acquirer.
 The acquirer purchases net assets and recognizes the assets
acquired and liabilities and contingent liabilities assumed,
including those not previously recognized by the acquiree.

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 enter separate balance sheets of parent and subsidiary
 prepare consolidation worksheet adjustments
 eliminate subsidiary owners’ equity
 recognize revaluation increments and
decrements
 recognize goodwill
 complete consolidated column
 prepare consolidated balance sheet from worksheet

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The acquisition method of accounting can be summarized
by the following steps :
1-The cost of acquisition is determined
2-The fair value of the acquiree’s assets is determined
3-The fair value of the acquiree’s liabilities and contingent
liabilities is determined
4-The fair market value of the acquired company’s net
assets equals the difference between the fair market
values of the acquired firm’s assets and liabilities
5- Calculate the new goodwill( or negative goodwill) arising
from the purchase .

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 Acquisition Accounting

the Acquirer Obtains 100% of the Acquirer Obtains Less

the Acquirer's Voting Interest Than 100% of the Acquirer's
Voting Interest

Goodwill Negative goodwill Goodwill Negative goodwill

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 Acquired, identifiable assets, liabilities
and contingent liabilities
 fair value at date of acquisition

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 Excess of
Cost of acquisition
over
Acquirer’s interest in the fair value of acquiree’s
identifiable assets less liabilities and
contingent liabilities

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 1

Total fair value of

Investment cost identifiable assets
less liabilities

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Investment cost > Net fair value

Goodwill

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Net fair value > Investment cost

Negative Goodwill
Purchase Bargain

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Pitt Corporation acquires the net assets of
Seed Company on December 30, 2015.

Pitt Seed

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 Book Fair
Value(000) Value(000)
Assets
Cash $ 50 $ 50
Net receivables 150 140
Inventories 200 250
Land 50 100
Buildings, net 300 500
Equipment, net 250 350
Patents 50
Total assets $1,000 $1,440
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 Book Fair
Value(000) Value(000)

Liabilities
Accounts payable $ 60 $ 60
Notes payable 150 135
Other liabilities 40 45
Total liabilities $250 $ 240
net assets $ 750 $1,200
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Pitt pays $400,000 cash and issues 50,000
shares of Pitt Corporation $10 par common
stock with a market value of $20 per share.

50,000 × $10 = $500,000

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 Illustration of a Purchase
Combination

Investment in Seed 1,400,000

Cash 400,000
Common Stock 500,000
Additional Paid-in Capital 500,000

To record issuance of 50,000 shares of $10 par common stock

plus $400,000 cash in a purchase business combination with
Seed Company

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 Illustration of a Purchase
Combination

Cash 50 Accounts payable 60

Net receivable 140 Notes payable 135
Inventories 250 Other liabilities 45
Land 100 Investment in
Buildings, net 500 Seed Company 1,400
Equipment, net 350
Patents 50
Goodwill 200
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 In certain purchase business combinations,
the purchase price is less than the fair value of
the net assets acquired. These are often
identified as being "bargain purchase"
transactions. This difference has traditionally
been referred to as "negative goodwill."
Negative goodwill is taken immediately
into income

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 Parent Subsidiary
Financial Financial
Statements Statements
_____ _____ _____ _____
_____ _____ Consolidated _____ _____
_____ _____ Financial _____ _____
_____ _____ Statements _____ _____
_____ _____
_____ _____
_____ _____
_____ _____

Consolidated financial statements provide information that is not included in

the separate statements of the parent corporation.
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 When an acquirer obtains a majority interest,
but not 100% ownership, in another entity,
the process of recording the transaction is
potentially more complicated. The portion of
the acquired operation not owned by the
acquirer, but claimed by outside interests, is
referred to as minority interest.
(Noncontrolling Interest(

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The interest of minority stockholders represents
equity investments in the consolidated net assets by
stockholders of the company affiliated with the parent.

Minority Interest are to include the minority interest

in consolidated stockholders’ equity or to place it
in a separate minority interest section.

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 Entity A purchases 30% of the ordinary share capital of
Entity B for $ 10 million on January I. 2004. The fair value of
the net assets 'of Entity B at that date was $20 million. On
January 1. 2005, Entity A purchases a further 40% of Entity
B for $I5 million, when the fair value of Entity B's assets
was S25 million. On January I. 2004. Entity A does not have
significant influence over Entity B. What value would be
recognized for goodwill (before any impairment test) in
the consolidated financial statements of A for the year
ended December 31. 2oo5?
 (a) $11 million.
 (b) $7.5 million,
 (c) $9 Million.
 (d) $14 million.
 Answer: (c)
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 Answer c

 At January I, 2004: cost $10 million - 30% of $20 million = 6

 At January 1, 2005: cost $15 million - 40% of $25 million = 10
 Total 16
 Total cost 25
 Goodwill 9

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3- Where should minority interests be presented in the
consolidated balance sheet?
(a) Within long-term liabilities.
(b) In between long-term liabilities and current liabilities.
(c) Within the parent shareholders' equity.
(d) Within equity but separate from the parent shareholders'
equity.
 Answer: (d)

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