GROUP ACCOUNTS Flashcards
(46 cards)
Basic Structure of business combinations:
Case 1 - Direct:
-Company A acquires the assets and liabilities of company B
Case 2 - Indirect:
-Company A acquires shares in (and control of) company B
Case 1: Presents no special accounting difficulty; there is no “group”.
The assets and liabilities acquired by Company A will be accounted for at their fair value (purchase price)
Only profits generated using the acquired assets post-acquisition will be recorded in Company A’s accounts.
Case 2:
Company A has an investment (in company B) that would appear in its SoFP.
There is a group; A is the parent or holding company and B is the subsidiary.
Why prepare group accounts?
To provide useful information to shareholders and other users of the holding enterprise’s financial statements about the group as a whole.
Prevent manipulation:
- Inflating sales by selling within the group (the effect of all intra-group transactions are eliminated from group accounts)
- Better measurement of management performance.
When do we have a group?
CONTROL:
If one entity controls another then a group exists and consolidated accounts must be prepared. Per IRS 10:
-An investor, regardless of the nature of its involvement with an entity, shall determine whether it is the parent by assessing whether it controls the investee.
- An investor controls an investee when it is exposed, or has rights, to variable returns from its involvement with the investee and has the ability to affect those returns through its power over the investee.
-Thus, an investor control an investee if and only if the investor has all the following:
a) power over the investee
b) exposure, or rights, to variable returns from its involvement with the investee
c) the ability ot use its power over the investee to affect the amount of the investor’s returns.
What situations might control exist?
- where a majority of voting rights are held by the investor.
- where les than a majority of the voting rights are held by the investor (but perhaps where the balance of the voting rights are widely dispersed among many different owners.
- where the investor holds some potential voting rights in the investee.
POTENTIAL VOTING RIGHTS
These are instruments which have the potential, if exercised or converted, to give the entity voting power.
-includes share option, convertible notes.
VARIABLE RETURNS
A necessary attribute of control is an expectation that the investor will be exposed to variable returns from its involvement with the investee.
(e.g. dividends)
Per IFRS 10:
Variable returns are returns that are not fixed and have the potential to vary as a result of the performance of an investee. An investor assesses whether returns from an investee are variable and how variable those returns are on the basis of the substance of the arrangement and regardless of the legal form of the returns.
JOINT CONTROL
Only one party can be in control of an entity before that controlling entity can be considered to be the parent entity.
If an entity “jointly controls” another entity then that entity cannot be considered to be a subsidiary, and rather than applying IFRS 10, another standard IFRS 11 Joint Arrangements - needs to be applied
H has 100% ownership of S and 75% ownership of S2.
S1 has 30% ownership of S1
S has 25% ownership of S1.
Describe ownership structure.
S and S2 are subsidiaries of H. Ownership of S1: (100% * 30%) + (75%*25%) = 48.75% Control of S1: 30% + 25% = 55% Hence, S1 is also a subsidiary of H
ACQUISITION METHOD
Per IFRS 3 (2008):
4 An entity shall account for each business combination by applying the acquisition method.
- Applying the acquisition method requires:
a) identifying the acquirer
b) determining the acquisition date
c) recognising and measuring the identifiable assets acquired, the liabilities assumed and any non-controlling interest in the acquiree
d) recognising and measuring goodwill or gain from a bargain purchase.
IDENTIFY THE ACQUIRER
IFRS 3 para 6:
For each business combination, one of the combining entities shall be identified as the acquirer .
Per appendix A the acquirer is: the entity that obtains control of the acquiree.
IDENTIFYING THE ACQUISITION DATE
IFRS 3 PARA 8:
The acquirer shall identify the acquisition date, which is the date on which it obtains control of the acquiree
MEASURING COST
The acquirer shall measure the identifiable assets acquired and the liabilities assumed at their acquisition date fair values.
FAIR VALUE
The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.
GOODWILL
Consideration pad by parent (price paid for investment) \+ Non-Controlling Interest - Fair value of subsidiaries net assets Share Capital Retained Earnings = Consolidated goodwill at acquisition date.
What if we don’t pay cash for the subsidiary?
The company may issue new share capital to finance the purchase of the subsidiary. When cash paid purchase would be recorded : Dr Investment in subsidiary Cr Bank When shares issued: Dr Investment in subsidiary Cr Share Capital Cr Share Premium
NEGATIVE GOODWILL
If the acquirer’s interest in the net fair value of the identifiable assets, liabilities and contingent liabilities recognised in accordance with para 36 exceeds the cost of the business combination, the acquirer shall:
a) reassess the identification and measurement of the acquiree’s identifiable assets, liabilities and contingent liabilities and the measurement of the cost of the combination
b) recognise immediately in profit or loss any excess remaining after that reassessment.
NON CONTROLLING INTEREST
Any shares of the subsidiary not held by the parent.
Two methods of measuring non controlling interest.
- At the on controlling interest’s proportionate share of the acquiree’s identifiable net assets (method per old standard)
- at fair value
Choice is available for each business on a case by case basis.
RATIONALE OF “NEW METHOD” OF CALCULATING GOODWILL
The traditional method of calculating goodwill only recognises the goodwill acquired by the parent, and is based on the parent’s ownership interest rather than the goodwill controlled by the parent.
RATIONALE OF THE “OLD” METHOD OF CALCULATING GOODWILL
What is goodwill? Normally considered to include such items as:
-Product reputation
-Skilled workforce
-Market share
These are valid but in acquisition the may also contsin:
-Premium to acquire control
-Value of synergy within the group.
PROBLEMS WITH NON CONTROLLING INTEREST
Different people have different opinions:
Fair value method should be used with exception only allowed if costs outweigh benefits.
Permitting a choice impairs comparability
Fair value is consistent with the IASB’s measurement principle
Diminishes the importance of convergence with FASB and sets dangerous precedent of exceptions to convergence.
ANOTHER OPINION:
-Fair value method should not be permitted
Choices reduce comparability
Goodwill is not like other assets as it cannot be separately identified and measured directly.
Parent only goodwill can be reliably measured (using actual price paid). It faithfully represents the acquisition transaction - NCI is not a part of this transaction.
DIFFERENCES BETWEEN FAIR VALUE AND BOOK VALUE
After combining the financial statements we need to adjust the values of the subsidiary to reflect fair value
Dr Non current assets
Cr Revaluation Reserve
Are group accounts prepared on the basis of ownership or control?
OWNERSHIP
PRE-ACQUISITION PROFITS
Made before date parent acquired control.
Represent net assets at acquisition date
Dealt with through goodwill calculation.
