Topic 7

Business Combinations
Chapter 12

Learning objectives
1. Discuss the nature of a business combination and its various forms
(p. 568)
2. Account for a business combination in the records of the acquirer
(p. 574)
3. Discuss the nature of and the accounting for goodwill and gain
from bargain purchase (p. 580)

The nature of a business

combination

AASB 3 defines a business combination as:

Control has the same meaning as defined in AASB

10 Consolidated Financial Statements (refer to CH
18)
Control exists when

a transaction or other event in which an acquirer obtains

control of one or more businesses

An investor 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

A business is not just a group of assets

An integrated set of activities and assets

Capable of being conducted / managed to provide a
return
in the form of dividends, lower costs or other economic

The nature of a business

combination
Assuming the existence of two companies A Ltd and
B Ltd
Four general forms of business combination are as
follows :
1. A Ltd acquires all assets and liabilities of B Ltd
B Ltd continues as a company, holding shares in
A Ltd
2. A Ltd acquires all assets and liabilities of B Ltd
B Ltd liquidates
3. C Ltd is formed to acquire all assets and liabilities
of A Ltd and B Ltd
Refer
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tofigure
figure12.2
12.2of
oftext
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forkey
keysteps
steps
involved
under
each
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involved under each of the above
A Ltd and B Ltd liquidate scenarios
scenarios
4. A Ltd acquires a group of net assets of B Ltd
(that constitutes a business)

Accounting for business

combinations:
Basic principles
AASB 3 prescribes the acquisition
method in accounting for a business
combination. The key steps in this
method are:
1. Identify an acquirer
2. Determine the acquisition date
3. Recognise and measure the identifiable
assets acquired, the liabilities
assumed, and any non-controlling
interest* in the acquiree; and
4. Recognise and measure goodwill or a
**Non-controlling
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Accounting for business

combinations:
Step 1 Identifying the acquirer

The business combination is viewed from the

perspective of the acquirer
The acquirer is the entity that obtains control of
the acquiree
In most cases this step is straight forward. In
other cases judgement may be required.

E.g. where two existing entities (A&B) combine and a new

entity (C) is formed to acquire all the shares of the
existing entities
Who is the acquirer?
A or B it cannot be C

Indicative factors contained within Appendix B of

AASB 3 assist in identifying the acquirer

Accounting for business

combinations:
Step 2 Determining the
acquisition date

Acquisition date is the date on which the

acquirer obtains control of the acquiree
(AASB 3 Appendix A)
Determining the correct acquisition date is
important as the following are affected by the
choice of acquisition date:
The fair values of net assets acquired
Consideration given, where the consideration takes a
non-cash form
Measurement of the non-controlling interest
Discussed in chapter 21
Measurement of the FV of any equity holding acquired
prior to gaining control (e.g. an initial 20% holding)

Accounting in the records of

the acquirer
In a business combination the acquirer has
to consider:

The recognition and measurement of the

identifiable assets acquired and the
liabilities assumed (Step 3 of the acquisition
method)
The recognition and measurement of goodwill
or a gain from a bargain purchase (Step 4 of
the acquisition method)

acquirer:
Step 3
Recognition/measurement of
assets acquired and liabilities
Recognition
assumed

Fair value allocation occurs at acquisition date and

requires the recognition of:

Identifiable assets acquiredInInaccordance

accordancewith
withFramework
Frameworkdefinition
definition
(AASB
(AASB33para.
para.11)
11)
Liabilities assumed
Contingent liabilities
Any non-controlling interest in the acquiree
Goodwill

FVINA = fair value of identifiable net assets (incl.

contingent liabilities)

Recognise all identifiable assets acquired and liabilities

assumed regardless of the probability of inflows and
outflows
Therefore, certain contingent liabilities are included in
FVINA
Probability is dealt with in the measurement of FV

Accounting in the records of the

acquirer: Step 4 Goodwill / gain
on bargain purchase
Consideration transferred
Consideration transferred is measured at
fair value at the date of acquisition,
calculated as the sum of:
Assets transferred by the acquirer Cash, Nonmonetary assets, Equity instruments, Liabilities
undertaken, Contingent consideration
Liabilities incurred by the acquirer to the
former owners (e.g. settlement via a series of
cash payments)
Equity instruments issued by the acquirer

Accounting in the records of the

acquirer: Step 4 Goodwill / gain
on bargain purchase
Acquisition related costs

Acquisition related costs that are directly

attributable to a business combination

Do not form part of the consideration transferred

(expense as incurred)

* *Compare
Comparethis
thisto
tothe
therequirements
requirementsof
ofAASB
AASB116
116PPE
PPEand
andAASB
AASB138
138IA,
IA,
where
such
costs
are
capitalised
into
the
cost
of
acquisition
where such costs are capitalised into the cost of acquisition

Examples include:

Finders fees
Advisory, legal accounting, valuation and other
professional or consulting fees
General administrative costs, including the costs of
maintaining an internal acquisitions department.

Accounting in the records of the

acquirer: Step 4 Goodwill / gain
on bargain purchase
Gain on bargain purchase

A gain on bargain purchase rises

The existence of a gain on bargain purchase is an

anomalous transaction it should be a rare event

A fire sale? Excellent bargaining skills?

In the event of a gain on bargain purchase the

acquirer is required to reassess if it has correctly

When the acquirers interest in the FVINA exceeds the

consideration transferred

Identified all the assets acquired and liabilities assumed

Measured at fair value all the assets acquired and
liabilities assumed
Measured the consideration transferred

If a bargain purchase remains, it is recognised

immediately as a gain in the profit & loss

Illustration
On 1 July 2012, Salmon Ltd acquires the net assets of Whiting Ltd. To fund
the acquisition, Salmon Ltd issued 50 000 shares to the shareholders of
Whiting Ltd, and paid $13 200 in cash to those shareholders. The fair values
of the identifiable assets and liabilities of Whiting Ltd are as follows:
Carrying Amount
Fair Value
Equipment
32,000
36,000
Inventory
18,000
20,000
Accounts receivable16,000
9,000
Patents
10,000
10,000
Accounts payable 8,000
8,000
Required:
Prepare the journal entry in the records of Salmon Ltd to account for the
acquisition of the assets and liabilities of Whiting Ltd, assuming the fair value
of Salmon Ltds shares is $1.10.

Acquisition Analysis
Net fair value of identifiable assets and liabilities acquired:
Equipment
36,000
Inventory
20,000
Accounts receivable
9,000
Patents
10,000
75,000
Accounts payable
8,000
FV of INAs acquired
67,000
Consideration transferred:
50 000 shares at $1.10 each
55,000
Cash paid
13,200
Total consideration
68,200
Goodwill
1,200

Journal Entry
Equipment
36,000
Inventory
20,000
AR
9,000
Patents
10,000
Goodwill
1,200
8,000
Liabilities
8,000
Cash
13,200
Share Capital
55,000
(acquisition of assets and liabilities from
Whiting Ltd)
See p. 583 Illustrative Example 12.1

Tutorial Week 8
Chapter 13
RQ 1, 7, 8
PQ 12.1, 12.2, 12.4

All students are expected to have attempted all tutorial problems before attending
the tutorial. Specifically, the question(s) that has been bolded.
For further understanding, you are encouraged to attempt Demonstration Problem
2 on p. 612 part A.