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19.1.1 Extracts from FRS102-Sections 19.2
19.2 Business combinations defined
19.2.1 Extracts from FRS 102 – Section 19.3
19.2.2.1 Definition of a business combination
19.2.2.1.1 Definition of a business
19.3 Structure of a business combination
19.3.1 Extracts from FRS 102 – Section 19.4–19.5A
19.4.1 Extracts from FRS102 – Section 19.6-19.7
19.5 Purchase method – Identifying the acquirer
19.5.1 Extracts from FRS102 – Section 19.8 – 19.10 and 19.17
19.5.2.3 New entity formed to effect a business combination where equity issued.
19.5.2.3.1 Control obtained but little or no substance to it
19.5.2.3.2 Identifying the acquirer – where substance to it.
19.5.2.4 Determining the acquistition date for the purpose of Section 19
19.6 Purchase method – Cost of a business combination
19.6.1 Extracts from FRS102 – Section 19.11-19.11A
19.6.2.2.1 Purchase on deferred payment terms
19.6.2.3 Liabilities incurred or assumed
19.6.2.4 Costs directly attributable to the acquisition/ business combination
19.6.2.4.1 Examples of directly attributable cost
19.6.2.4.2 Example of costs not directly attributable
19.6.2.5 Equity issued as consideration for the acquisition
19.6.2.6 Cost where control achieved in stages
19.7 Adjustments to the cost of a business combination contingent on future events
19.7.1 Extracts from FRS102 – Section 19.12-19.13
19.7.2.1 Contingent consideration and change in estimate
19.7.2.1.1 Contingent consideration – probable at the date of acquisition.
19.7.2.1.3 Changes in contingent consideration – change in estimate
19.7.2.1.4 Contingent consideration – No provision booked in year 1
19.7.2.2 Contingency payments relating to further services
19.8 Allocating of the cost of a business combination to the asset acquire and liabilities assured.
19.8.1.1 Extracts from FRS102 – Section 19.14-19.15, 19.18 and 19.20-19.21
19.8.1.2.2 Definition of assets and liabilities
19.8.1.2.2 Determining fair value
19.8.1.2.2.1 Fair value – intentions of acquirer ignored
19.8.1.2.2.1.1 Restructuring provisions
19.8.1.2.2.2 Measurement of contingent liabilities
19.8.1.2.2.2.1 Contingent liability – right of reimbursement
19.8.1.2.2.2.2 Fair valuing contingent consideration
19.8.1.2.2.3 Future losses – non-recognition of liabilities in determining allocation of cost
19.8.1.2.2.5 Determining fair value of intangible assets
19.8.1.2.2.6 Determining fair value of inventory
19.8.1.2.2.8 Determining fair value of investment in associate and joint ventures
19.8.1.2.2.9 Determining fair value of deferred revenue
19.9 Measurement of deferred tax, employee benefit and share based payments
19.9.1 Extracts from FRS102 – Section 19.15A-19.15C
19.10 Purchases method – Subsequent adjustment to fair value and accounting for Goodwill
19.10.1 Extracts from FRS102 – Section 19.16-19.17 and 19.22-19.23
19.10.2.1 Adjustments to fair value of identified assets and liabilities
19.10.2.2 Accounting for calculating goodwill including a journal to reflect business combination.
19.10.2.2.1 Initial recognition of goodwill
19.10.2.2.2 Subsequent recognitions of goodwill
19.10.2.2.3 Journals to reflect the business combination
19.10.2.2.4 Useful life of goodwill
19.10.2.2.4.1 Change in useful economic life
19.11 Business combination achieved in stages
19.11.1 Extracts from FRS102 – Section 19.11A
19.11.2.1.1 Acquiring a further controlling interest
19.11.2.1.2 Disposing of controlling interest but controlling interest retained
19.12.1 Extracts from FRS102 – Section 19.24
19.13.1 Extracts from FRS 102 section 19.27-19.32
19.13.2.1 Group reconstruction defined
19.13.2.4 Group reorganisations and merger accounting
19.14.1 Extracts from FRS 102 section 19.25 – 19.26A
19.14.2.1 Accounting policies positive goodwill – Consolidated financial statements.
19.14.2.2 Example from the notes to the accounts
19.14.2.2.1 Contingent consideration note
19.14.2.3 Parent entity accounting policies
19.14.2.3.1 Extract from notes to the financial statements
19.14.2.5 Profit and Loss Account for parent entity
19.14.2.6 – Negative Goodwill for the financial year
19.15 Disclosures – Group reconstructions
19.15.1 Extracts from FRS 102-Section 19.33
19.15.2.2 Extract from notes to the financial statements
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19.10 Purchases method – Subsequent adjustment to fair value and accounting for Goodwill
19.10.1 Extracts from FRS102 – Section 19.16-19.17 and 19.22-19.23
19.16 The acquirer’s statement of comprehensive income shall incorporate the acquiree’s profits or losses after the acquisition date by including the acquiree’s income and expenses based on the cost of the business combination to the acquirer. For example, depreciation expense included after the acquisition date in the acquirer’s statement of comprehensive income that relates to the acquiree’s depreciable assets shall be based on the fair values of those depreciable assets at the acquisition date, i.e. their cost to the acquirer.
Subsequent adjustment to fair value
19.19 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 recognise in its financial statements provisional amounts for the items for which the accounting is incomplete. Within twelve months after the acquisition date, the acquirer shall retrospectively adjust the provisional amounts recognised as assets and liabilities at the acquisition date (ie account for them as if they were made at the acquisition date) to reflect new information obtained. Beyond twelve months after the acquisition date, adjustments to the initial accounting for a business combination shall be recognized only to correct a material error in accordance with Section 10 Accounting Policies, Estimates and Errors.
Recognising and measuring goodwill
19.22 The acquirer shall, at the acquisition date:
(a) recognise goodwill acquired in a business combination as an asset; and
(b) initially measure that goodwill at its cost, being the excess of the cost of the business combination over the acquirer’s interest in the net amount of the identifiable assets, liabilities and contingent liabilities recognised and measured in accordance with paragraphs 19.15 to 19.15C.
19.23 After initial recognition, the acquirer shall measure goodwill acquired in a business combination at cost less accumulated amortisation and accumulated impairment losses:
(a) An entity shall follow the principles in paragraphs 18.19 to 18.24 for amortisation of goodwill. Goodwill shall be considered to have a finite useful life, and shall be amortised on a systematic basis over its life. If, in exceptional cases, an entity is unable to make a reliable estimate of the useful life of goodwill, the life shall not exceed 10 years.
(b) An entity shall follow Section 27 Impairment of Assets for recognising and measuring the impairment of goodwill.
19.10.2 OmniPro comment
As per Section 19.19 of FRS 102 adjustments to the fair value of the liabilities and assets of the acquiree in a business combination can be made for 12 months following the date of acquisition. After this date no adjustment can be made to goodwill unless there was a material error in which case a prior year adjustment would have to be made to the consolidated financial statements.
After the 12 month period has elapsed, prior year adjustments cannot be done for changes in estimates in the fair values (it can only be done for changes in estimates within the 12 month period) other than where contingent consideration exists which was discussed at 19.7.2 and shown in examples 6 and 7 above where any adjustments are posted to goodwill prospectively. When an acquisition occurs part way through the financial year, the 12 month period for adjustment to fair values will straddle two financial years. In this case if in the second financial year, an adjustment is required to the fair values, then a prior year adjustment will be required to restate the goodwill and fair value of assets and any depreciation impact etc. stated in the prior year i.e. it must be adjusted retrospectively. See illustration in the examples below:
Example 12: Subsequent adjustment to fair values at the acquisition date and amortisation of goodwill and fair value uplifts on acquisition
Company A acquired 100% of company B on 1 October 20X4. The year end for the financial statements is 31 December. When signing off the (consolidated where shares are acquired or entity where the net assets are acquired) financial statements, the company could not get a professional valuation for the property, plant and equipment within the time period. Therefore Company A estimated a fair value of CU100,000. Note the NBV of the PPE in the acquirees book was CU90,000 so deferred tax of CU1,000 was recognised on the uplift.
In addition Company A estimated the bad debt provision on the trade debtor balance and deemed the fair value of debtors to be CU10,000 which equaled the book value. The fair value of all assets and liabilities including the aforementioned was CU200,000. Goodwill at the date of acquisition was calculated at CU49,000. The total cost of the acquisition was CU250,000.
The useful life of goodwill was determined to be 10 years and the remaining life on the property, plant and equipment was 5 years. Assume deferred tax rate is 10%.
The profits made from 1 October to 31 December 20X4 was CU20,000.
In the 31 December 20X4 financial statements the following adjustments would be posted to the consolidated financial statements to reflect the goodwill on the acquisition date:
| CU | CU | |
| Dr Goodwill | 50,000 | |
| Dr Ordinary Share Capital and P&L Reserves** | 200,000 | |
| Cr Investment in the Parent Company Financial Statements** | 250,000 |
The below journal is required to recognise the deferred tax:
| CU | CU | |
| Dr Goodwill | 1,000 | |
|
Cr Deferred Tax Liability on Fair Value Uplift above Book Value (CU10,000*10%) |
1,000 |
The below journal would be posted to recognise the depreciation on the uplift in PPE:
| CU | CU | |
|
Dr Depreciation (CU10,000/5 years* 3/12th) |
500 | |
| Cr Accumulated Depreciation PPE | 500 |
The below journal would be posted to recognise the amortisation on goodwill:
| CU | CU | |
| Dr Amortisation | 1,225* | |
| Cr Accumulated Amortisation Goodwill | 1,225 |
*goodwill on recognition is CU50,000 less deferred tax of CU1,000=CU49,000/10yrs*3/12th being period 1 October to 31 December
-**If the net assets were acquired (i.e. the trade and not the shares) the journal would be to:
| CU | CU | |
| Dr Net Assets | 200,000 | |
| Dr Goodwill | 50,000 | |
| Cr Bank | 250,000 |
On 1 February 20X5 (within the 12 month limit), Company A obtained the valuation for the PPE on the date of acquisition which was CU150,000. Following a review of the debtors acquired on acquisition at 31 August 20X5, evidence showed that the fair value at the date of acquisition was CU5,000 instead of the estimated CU10,000. The company is preparing the 31 December 20X5 consolidated financial statements.
Note a prior year adjustment is required here as the 12 month adjustment period straddles 2 accounting periods. The journals to be posted in the 20X4 accounts to show the prior year adjustment are:
| CU | CU | |
|
Dr PPE (see note 1) |
47,500 | |
|
Cr Debtors (see note 2) |
5,000 | |
|
Dr Depreciation on PPE (see note 1) |
2,500 | |
|
Cr Amortisation of Goodwill (See note 3) |
1,018 | |
|
Cr Deferred Tax Liability (CU4,750-CU500) See note 1 and note 2 |
4,250 | |
|
Cr Goodwill (See note 3) |
39,732 |
Being journal to reflect adjustment to reflect change in fair values within the 12 month period
|
Note 1: Fair value adjustment to PPE Updated fair value of PPE included in calculation of goodwill CU150,000 Initial fair value of PPE included in calculation of goodwill (CU100,000) Adjustment to be made to goodwill CU50,000 Additional depreciation that should have been charged from period 1 October to 31 December 20X4 (CU50,000/5yrs*3/12th) (CU2,500) Total adjustment to be made to PPE CU47,500
Deferred tax on net adjustment in PPE (CU47,500*10%) (CU4,750) Note 2: Fair value adjustment to debtors Updated fair value of debtors included in calculation of goodwill CU5,000 Initial fair value of debtors included in calculation of goodwill (CU10,000) Adjustment to be made to goodwill (CU5,000)
Deferred tax on net adjustment in debtors (CU5,000*10%) CU500
Note 3: Adjustment to goodwill Adjustment to reflect updated PPE fair value CU50,000 Adjustment to reflect updated deferred tax (CU4,750-CU500) (CU4,250) Adjustment to reflect updated debtors fair value (CU5,000) Adjustment to goodwill cost CU40,750 Additional amortisation that should have been charged on goodwill from 1 October to 31 December 20X4 (CU40,750/10yrs useful life*3/12th) (CU1,018) Total adjustment to goodwill in 31 December 20X4 accounts – credit CU39,732 |
Note no deferred tax is recognised on goodwill as per Section 29.11 of FRS 102.
In the 20X5 consolidated financial statements the updated goodwill figure of CU89,750 (CU49,000+CU40,750) and PPE fair value figure of CU150,000 (CU90,000+CU10,000) will be amortised/depreciated.
19.10.2.2 Accounting for calculating goodwill including a journal to reflect business combination.
19.10.2.2.1 Initial recognition of goodwill
As per Section 19.22 of FRS 102, the difference between the cost of the business combination and the net amount of the fair value of the acquiree’s assets, liabilities and contingent liabilities represents goodwill and should be recognized as an asset on the balance sheet (unless it is negative if so, see 19.12.2)
19.10.2.2.2 Subsequent recognitions of goodwill
Section 19.23 of FRS 102 requires goodwill to be recognised at cost as determined on initial recognition less amortised and impairment Goodwill should be amortised over its expected useful economic life (if this life cannot be reliably obtained then it cannot have a life of more than 10 years).
See example 11 and 12 at 19.9.2.1 and 19.10.2.1 respectively which illustrates the requirements of Section 19.22 and 19.23 of FRS 102.
19.10.2.2.3 Journals to reflect the business combination
Example 13: Journals to reflect the business combination
If we take example 11 above and assume only 80% of the company is acquired. The goodwill to be recognised in this instance is as follows:
Total net assets of CU748,500*80% being the % ownership= CU598,800. The total amount paid was CU1,000,000, therefore goodwill of CU393,200 should be recognised.
The journals required in the consolidated financial statements are:
| CU | CU | |
| Dr Goodwill | 401,200 | |
| Dr Net Assets of Company B | 748,500 | |
| Cr Investment in Company B in Parent Entity Balance Sheet | 1,000,000 | |
|
Cr Non-controlling Interest (CU748,500*20%) |
149,700 |
19.10.2.2.4 Useful life of goodwill
Section 19.23 of FRS 102 makes it clear that goodwill is considered to have a finite life. The September 2015 version of the standard specifies that where a useful life cannot be determined then a useful life should not exceed 10 years. This cannot be chosen as a default, instead a good effort has to be made to determine a useful life.
19.10.2.2.4.1 Change in useful economic life
Where a change in useful life of goodwill is determined due to a change in estimate this should be adjusted for prospectively. See example 14 below.
Example 14: Revising the useful life of goodwill
In year 1 an goodwill was recognised on acquisition CU100,000. It had an estimated life of 10 years. Its estimated residual value was estimated to be nil. This useful life was assessed for indicators of change at each year end and there were no issues up to the end of year 4. At the start of year 5, due to a detailed assessment of the remaining lifes of goodwill, the useful life was reassessed at 4 years instead of 6 years at that time, the asset had a carrying amount as follows:
| Cost | CU100,000 |
| Residual Value | (-) |
| Depreciable Amount | CU100,000 |
|
Depreciation (100,000 / 10 yrs * 4 yrs) |
(CU40,000) |
| Carrying Amount | CU60,000 |
In year 5, the useful life was assessed as 4 years instead of 6 years (there were no issues with regard to impairment). Deducting amortisation charged to date of CU40,000 leaves CU60,000 to be amortised over the updated remaining useful life of 4 years. Therefore, amortisation of CU15,000 (CU60,000/4yrs) for the remaining four years. Disclosure of the change in estimate would be required in the financial statements detailing the effect on current and future years i.e. that the amortisation charge increased from CU10,000 to CU15,000 for the remaining years and the assets will be written down to nil in 4 years time as opposed to the original 6 years.
19.10.2.2.5 Impairment
Identifying and accounting for impairment of goodwill is dealt with by Section 27 of FRS 102. At each reporting period goodwill should be reviewed for indicators of impairment as per Section 27. Where indicators are identified, an impairment review should be carried out. See 27.4.2 for further details of how this should be accounted for and how it should be carried out. Goodwill impairment cannot be reversed if the entity is a UK company which has early adopted the amendments made to FRS 102 in September 2015 as detailed in Section 27. However, as the EU Directive 2013/34 has not been implemented at this date in Ireland, Republic of Ireland Companies or UK Companies who have not early adopted the September 2015 amendments to FRS 102 can currently reverse a previous impairment on goodwill.
Section 27 does not require an impairment review to be carried out for goodwill with a useful economic life of over 20 years nor does it require an impairment review to be performed the first year after acquisition. It does require an impairment review to be performed where there are indicators of impairment.
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Examples
Example 1: Determining a Business.
Example 2: Determining a Business.
Example 3: Identifying the Acquiring Company.
Example 4: Identifying the acquirer
Example 5: Determining cost where control achieved in stages.
Example 6: Changes in contingent consideration – change in estimate.
Example 7: Contingent consideration – No provision booked in year 1.
Example 8: Valuing work in progress.
Example 10: Favorable/unfavorable contract
Example 11: Deferred tax on business combinations
Example 13: Journals to reflect the business combination.
Example 14: Revising the useful life of goodwill
Example 15: Business combination achieved in stages.
Example 16: Acquiring a further controlling interest
Example 17: Acquiring a further controlling interest
Example 18: Disposing of controlling interest but controlling interest retained.
Example 20: Group reorganisations.
Example 23: Extract from notes to the financial statements – contingent consideration note.
Example 29: Extract from the consolidated Balance Sheet for negative goodwill
Example 30: Extract from the accounting policy notes – Group reconstruction and merger accounting.
Example 31: Extract from notes to the financial statements – Merger Method.
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