Presentation Subject Header IFRS 3: Business Combinations IFRS Webcast 1 September 2010 Jane Meade...

Presentation Subject Header

IFRS 3: Business Combinations

IFRS Webcast 1 September 2010

Jane Meade RSM Bird CameronJude Doliente RSM Prince

Business Combinations

1 September 2010 2

Agenda for Today’s Webcast

• Overview of main provisions of IFRS 3

• Focus on complex areas in practice:– Identifying the acquirer – Determining acquisition date – Purchase price allocation – Step acquisitions – Transactions between entities under common control


1 September 2010 3

Overview of IFRS 3 - Scope

• Applies to transactions or other events that meet the definition of a business combination

• Does not apply to:– formation of a joint venture– acquisition of asset or group of assets that does not constitute a

business– a combination of entities or businesses under common control


1 September 2010 4

Overview of IFRS 3 – what is a business?

• Business Combination:

• Business:

“an integrated set of activities and assets that is capable of being conducted and managed for the purpose of providing a return in the form of dividends, lower costs or other economic benefits directly to investors or other owners, members or participants”

“A transaction or other event in which an acquirer obtains control of one or more businesses.”


1 September 2010 5

Overview of IFRS 3 – Acquisition method

“An entity shall account for each business combination by applying the acquisition method” :

• Identifying the acquirer• Determining the acquisition date• Recognising and measuring identifiable assets acquired,

liabilities assumed and any non-controlling interest in the acquiree

• Recognising and measuring any goodwill or gain from a bargain purchase


1 September 2010 6

Identify the Acquirer

• Acquirer is the entity that obtains control of the acquiree– use guidance in IAS 127 if not clear:

usually the entity that transfers cash or other assets or incurs liabilities or issues equity interests however – reverse acquisition – entity issuing shares is the

acquiree relative voting rights in combined entity: acquirer usually retains or

receives largest portion of voting rights or largest minority voting interest composition of governing body: acquirer usually has ability to elect,

appoint or remove board of combined entity composition of senior management: acquirer’s former management

usually dominated management of combined entity terms of exchange of equity interests: acquirer usually pays premium

over pre-combination FV of equity interests


1 September 2010 7

Identify the Acquirer – reverse acquisition

Reverse acquisition: Eg private operating entity wants to become a publicly listed entity

without listing its shares => arranges for a publicly listed entity to acquire its shares in exchange for shares in that listed entity

listed entity = legal acquirer but acquiree for accounting purposes private entity = legal acquiree but acquirer for accounting purposes

Note: listed entity must be a business new entity formed to effect a business combination is not necessarily the

acquirer


1 September 2010 8

Reverse acquisition (cont.)

Public Co

Private Co

Legal acquirer

Accounting acquiree

Legal acquiree

Accounting acquirerShareholders

Shareholders

Shares


1 September 2010 9


A

BB S/H

A S/H

100 shares

60 shares

60 shares

150 shares

FV = 12

FV = 40

A

B

60 shares100%

A 1S/H

A 2S/H

100 shares

150 shares

40%

60%


1 September 2010 10

Cost of Reverse Acquisition

Cost = fair value of shares that B would have had to issue to A’s shareholders in exchange for their shares in A that would give them the same % interest in the combined entity as a result of the reverse acquisition


1 September 2010 11


B

A

B 1S/H

B2S/H

60 shares

40 shares

60%

40%A

B

60 shares100%

A 1S/H

A 2S/H

100 shares

150 shares

40%

60%

100%

Cost = 40 shares at 40cu

= 1600cu


1 September 2010 12


What if the fair value of B’s shares is not clearly evident?


1 September 2010 13


Use the total FV of A’s shares on issue before business combination:

COST = 100 shares @ 12cu

= 1200 cu


1 September 2010 14

Reverse acquisitions of a ‘shell company’

• Private entity arranges to have itself ‘acquired’ by a publicly listed shell as a means of getting itself listed

• Shell company will usually not meet the definition of ‘business’

Not a reverse acquisition under IFRS 3

Not a business combination under IFRS 3 (goodwill cannot be recognised)

Common view: continue financial statements of accounting acquirer (legal subsidiary) + deemed issue of shares (a share-based payment for net assets of accounting acquiree)


1 September 2010 15


A

BB S/H

A S/H

10,000 shares

9,500 shares

9,500 shares

190,000 shares

FV = 12

(market price)

FV = 230

(valuation)

A

B

9,500 shares100%

A 1S/H

A 2S/H

10,000 shares

190,000 shares

5%

95%


1 September 2010 16


A

B

9,500 shares100%

A 1S/H

A 2S/H

10,000 shares

190,000 shares

5%

95%

• Substance: B has control and is the continuing entity

• B is deemed under IFRS2 to have issued shares in exchange for assets of A (being 85,000cu cash) + listing

• Can’t measure listing reliably => under IFRS 2, measure SBP transaction at FV of equities deemed to be issued

• B would have had to issue 500 shares to A’s shareholders to give them a 5% interest in the combined entity

FV of equities issued = 500 x 230cu = 115,000cu

Dr: Cash 85,000

Dr: Expenses 30,000 *

Cr: Equity 115,000

• * : this is an expense of attaining the listing, rather than goodwill

• If FV of A’s shares used, equity = 120,000 cu


1 September 2010 17

Determining the acquisition date

• Date on which acquirer obtains control of acquiree– Generally date that acquirer legally transfers consideration, acquires

assets and assumes liability <=> closing date– Control may be obtained earlier or later

– Eg if written agreement provides that acquirer obtains control before closing date

– Note: beware contracts that seek to “artificially” create acquisition date – eg “effective date of transaction”, entitlement to profits after effective date

– Look for factors that indicate control has passed – eg decision-making etc.


Purchase Price Allocation (PPA)

• Purchase Price Allocation (“PPA”) is the dissection of the price paid for a business or company between the individual assets and liabilities of that entity.

• IFRS 3 p. 10, “the acquirer shall recognise, separately from goodwill the identifiable assets acquired, the liabilities assumed and any non-controlling interest in the acquiree.

1 September 2010 18


PPA Process

a) identify the acquirer

b) determine the acquisition date

c) determine the fair value of consideration transferred

d) determine the fair value of identifiable tangible assets acquired and liabilities assumed

e) recognise and measure the identifiable intangible assets acquired

f) value non controlling interests; and

g) recognise and measure goodwill or a gain from a bargain purchase

1 September 2010 19


PPA-General Principles

1 September 2010 20

Principles

Recognition

•Must meet the definitions of assets and liabilities, and•Must be part of what the acquirer and the acquiree (or former owners) exchanged in the business combination

Measurement•Identifiable assets and liabilities shall be measured at their acquisition-date fair values.


PPA – Exceptions to Principles

Recognition Measurement

Contingent Liabilities √

Income Taxes √ √

Employee Benefits √ √

Indemnification Assets √ √

Reacquired Rights √

Assets Held for Sale √

Share-based payments √

1 September 2010 21


Purchase Price Allocation – Intangible Assets

Intangible Assets

• Non monetary assets without physical substance.

• Need to be identified to be distinguished from goodwill.

Criteria for Identification

• Separability or

• Contractual or legal rights

1 September 2010 22


PPA - Intangibles (IFRS 3IE)Group of intangibles

Some Examples

Primary Criterion

Marketing-related Trademarks, service marks, trade dress, internet domain names

Contractual-legal

Customer-related Customer lists, order backlog, customer contracts, non contractual customer relationships

Separability or contractual-legal

Artistic-related Plays, ballets, operas, musical work, books, videos, pictures, ad jingles

Contractual-legal

Contract-based Licensing agreements, lease agreements, construction permits, employment contracts, use rights such as drilling, water and route authority

Contractual

Technology-based Patented technology, R&D, unpatented technology, databases, trade secrets such as secret processes and formulas

Separability or contractual-legal

1 September 2010 23


PPA – Non-controlling interest (NCI)

1 September 2010 24

NCI Measurement Options

Fair Value method-NCI measured at fair value

Proportionate share method-NCI measured at proportionate share of net identifiable assets

Goodwill Higher Lower

Net assets at combination date Higher Lower

Total charge for goodwill impairment

Higher Lower


1 September 2010 25

Measure goodwill

Fair value of acquiree as a whole (100%) less

Aggregate fair value of identifiable net assets

acquired (100%)= Goodwill

Fair value of consideration

paid

Amount of any NCI

Fair value of previously held equity interest

Excludes transaction

costs


Step Acquisition - principles

• The change from a non-controlling investment in an entity to obtaining control is a significant change.

• The acquirer exchanges its status from an owner of an investment for a controlling financial interest with the right to direct management of the acquiree.

• This significant change warrants a change in the classification and measurement of that investment.

1 September 2010 26


Step acquisition - procedures

1.Upon obtaining control, the acquirer shall remeasure its previously held equity interest in the acquiree at its acquisition- date fair value and recognise the resulting gain or loss.

2.Any item in other comprehensive income will be recycled to the profit and loss statement.

3.Goodwill or gain from a bargain purchase will be calculated based on paragraph 32 of IFRS 3.

1 September 2010 27


Step acquisition

1 September 2010 28

Investment at 15% accounted as AFS or FVTPL under IAS 39

Investment accounted for under IAS 28 as an associate

+20%=35%

• Control is obtained• Remeasure 35% of interest

at fair value• Recognise gain or loss in P/L• Recycle comprehensive

income items, if any• Goodwill/

Gain=Consideration paid for 40% + fair value of 35% + 25% of NCI (measured at fair value or proportionate share) - identifiable net assets of subsidiary

+40%=75%


Step acquisition - Example

• Big has a 35% investment in Small and is accounted for as an associate in accordance with IAS 28 and has a carrying value of $35m. Big purchases an additional 40% interest of Small for $60m cash. The fair value of the previously held equity interest was $45m. The aggregate net assets of Small was measured to be $120m under IFRS 3.

• Required: Ignoring tax effects, and assuming NCI is accounted using the proportionate share method, preparing the consolidation entry.

1 September 2010 29


Step Acquisition - Example

1 September 2010 30

A. Remeasure previous interest: C. Determine goodwill:Fair value 45 Fair value of previously acquired interest 45Carrying value 35 NCI 30Gain 10 Consideration for 40% 60

Total 135B. Determine NCI:Fair value of net assets 120 Aggregate of net assets 120NCI share 25%NCI amount 30 Goodwill 15

CONSOLIDATION JOURNALS

(dr) Investment in Small 10 (dr) Goodwill 15(cr) Gain in equity interest 10 (dr) Net asset ofSmall

and other FV adjustments 20(cr) Investment in Small (35+10+60) 105(cr) NCI 30


Step acquisition – Example

Other cases:

1 September 2010 31

Case Accounting Treatment

1. Assume, 1 year later that Big company acquires additional 10% of the minority interest?

Guidance from IAS 27 p. 30-31. Any difference between NCI adjustment and consideration paid is recognised directly in equity attributed to parent owners.

2. Assume 2 years later, that Big company sells 50% of its interest in small Company?

Guidance from IAS 27 p. 32-37.


Entities under common control

A business combination involving entities or business under common control is a business combination in which all of the combining entities or businesses are ultimately controlled by the same part or parties both before and after the business combination, and that control is not transitory.

1 September 2010 32


Accounting for business combinations under common control• Scoped out of IFRS 3. No prescription from the IASB.

• Reference is made to IAS 8 (Accounting Policies, Changes in Accounting Estimates and Errors)

– In the absence of guidance in IFRS, management shall use its judgment in developing and applying an accounting policy that is relevant and reliable.

• Two possible options until IASB finalises prescription:– Pooling of interest method– Acquisition method

1 September 2010 33


Q & A session

Presentation Subject Header IFRS 3: Business Combinations IFRS Webcast 1 September 2010 Jane Meade...

Documents

Transcript of Presentation Subject Header IFRS 3: Business Combinations IFRS Webcast 1 September 2010 Jane Meade...