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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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19.9 Measurement of Deferred Tax, Employee Benefit and Share Based Payments
19.9.1 Extracts from FRS102 – Section 19.15A-19.15C
19.15A The acquirer shall recognise and measure a deferred tax asset or liability arising from the assets acquired and liabilities assumed in accordance with Section 29 Income Tax.
19.15B The acquirer shall recognise and measure a liability (or asset, if any) related to the acquiree’s employee benefit arrangements in accordance with Section 28 Employee Benefits.
19.15C The acquirer shall recognise and measure a share-based payment in accordance with Section 26 Share-based Payment.
19.9.2 OmniPro comment
19.9.2.1 Deferred tax
Section 29.11 and 29.12 of FRS 102 requires deferred tax to be recognised on all differences including permanent differences with the exception of goodwill between the fair value of the assets and liabilities at the date of acquisition and the carrying amount in the books of the acquiree. See 29.4.2 for further details.
The rate of deferred tax to use (i.e. the sales tax rate or the trading rate) depends on the expected manner of recovery of the asset or liability. Where the assets/liabilities are likely to be settled/used through use in the trade with little residual value, the trading rate enacted at the year end date should be used. Where it is likely the assets will be sold or there is a high residual value the sale tax rate should be used.
A deferred tax asset is only recognised where it is probable there will be future taxable cash flows to utilise the asset. Sometimes it may be possible to recognise losses forward in the acquire which were not recognised previously as there was doubt about future profits. However care needs to be had as to whether these losses will be allowable in the future under tax law.
The deferred tax recognised is set against the goodwill figure as detailed in Section 29.11 of FRS 102 and illustrated below.
Deferred tax has been discussed further in Section 29 of FRS 102 at 29.5.2
Example 11: Deferred tax on business combinations
Parent A acquired 100% of the ordinary shares of Company B for CU1,000,000. Assume the deferred tax rate is 10%. Assume deferred tax has been recognised correctly in the book amounts transferred. Details of the book value and fair value at the time of acquisition is detailed below:
| Book value | Fair value | |
| Property, Plant and Equipment | CU300,000 | CU550,000 |
| Intangible Assets | CUnil | CU100,000 |
| Inventory | CU150,000 | CU170,000 |
| Cash | CU100,000 | CU100,000 |
| Debtors | CU20,000 | CU25,000 |
| Creditors | (CU100,000) | (CU100,000) |
| Contingent Liabilities | CU- | (CU10,000) |
| Deferred Tax | (CU60,000) | (CU86,500*) |
| Total Net Assets | CU410,000 | CU748,500 |
| Consideration | CU1,000,000 | |
| Goodwill | CU251,500 |
The deferred tax to be recognised on acquisition is:
| Uplift in Property, Plant and Equipment | CU150,000 |
| Uplift in Intangible Assets | CU100,000 |
| Uplift in Inventory | CU20,000 |
| Uplift in Cash | CUnil |
| Uplift in Contingent Liabilities | (CU10,000) |
| Uplift in Debtors | CU5,000 |
| Uplift in Creditors | CUnil |
| Total Timing Difference | CU265,000 |
Once the above exercise is completed management should assess the rate that the asset/liabilities are expected to be reversed. Here the debtors, inventory, contingent liability property, plant and equipment are going to be reversed during trading as they are trading assets. In relation to the intangible assets, if it is assumed these will be used throughout the trade and have little residual value then the trading rate should be used in measuring the deferred tax. The deferred tax liability to recognise as a result of the uplift in value is:
CU265,000 * 10%= CU26,500. Therefore total deferred tax to be shown in the consolidated financial statements is = CU26,500+CU60,000=CU86,500
The journals required in the consolidated financial statements are:
| CU | CU | |
| Dr Goodwill | 251,500 | |
| Dr Net Assets of Company B | 748,500 | |
| Cr Investment in Company B in Parent Entity Balance Sheet | 1,000,000 |
From above it is evident that the additional liability for deferred tax has increased goodwill by the same amount. The deferred tax will be reduced as the differences reverses year on year (i.e. for PPE and intangibles in the period depreciation/amortisation is charged, for debtors when they are paid, for inventory when they are sold etc.). The deferred tax is reversed as depreciation/amortisation is charged and as the debtors/contingent liability is realised.
Note in the example above if there was a large residual value on the PPE, then it may be appropriate to recognise deferred tax at the sales rate for the value allocated to the residual amount and the remainder would be measured using the trading tax rate. This would then give a different answer for goodwill.
Example 11A: Deferred tax on a business contribution where net assets as opposed to shares are acquired.
If we assume the company acquired the trade (net assets) as opposed to the shares in the above example deferred tax would be still required to be recognised. In the entity accounts as the fair value would be included on the balance sheet. The journals will be:
| CU | CU | |
| Dr Net Asset at Fair Value | 248,500 | |
| Dr Goodwill | 251,500 | |
| Cr Bank | 1,000,000 |
19.9.2.2 Employee benefits
Where an amount is payable as part of the acquisition and deemed to be for future services, this cost should be accounted for in accordance with Section 28-Employee benefits. Therefore they should be recognised in the profit and loss over the period to which the contingency relates i.e. the length of time the employee has to remain in service after the acquisition. The amount provided for in the profit and loss in the consolidated financial statements should use a best estimate of the likely volume of employees that will stay on to receive the payment.
19.9.2.3 Share based payments
It would be unusual to have to account for share based payments as part of the acquisition cost. Usually where share are issued they are based on an agreed price per share. Where shares are issued as part of contingent consideration which are issued based on an agreed total value this would be accounted for as normal contingent consideration as discussed above.
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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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