Week 5: Chapters 10 & 11

Chapter 10

Explain the basic steps in the acquisition method of accounting for

business combinations
AASB 3 - business combination: a transaction or other
event in which an acquirer obtains control of one or more
businesses
Four
general forms of business combinations assuming the
existence of two companies A Ltd and B Ltd
1. A Ltd acquires all assets and liabilities of B Ltd.
B Ltd continues as a co, holding shares in A Ltd
2. A Ltd acquires all assets of B Ltd
B Ltd liquidates
3. C Ltd is formed to acquire all asset and liabilities of A Ltd and
B Ltd
A Ltd and B Ltd both liquidate
4. A Ltd acquires a group of net assets of B Ltd
B Ltd continues to operate
AASB 3 prescribes the acquisition method in accounting for a
business combo. Key steps:
1. Identify an acquirer
Business combo viewed from the perspective of acquirer
Acquirer: entity that obtains control of acquire
Most cases straightforward. Others need judgement
e.g. two entities combine and make new entity
New entity cant be acquirer
Signs of control have most of voting rights, are
decision maker
2. Determine and measure the identifiable assets acquired; the
liabilities assumes and any NCI in the acquire
Acquisition date is the date that the acquirer obtains
control of the acquiree
Determining the correct acquisition date is important as
the following are affected by the choice of acquisition
date:
o FV of net assets are acquired
o Consideration given, where the consideration
takes a non-cash form
o Measurement of the non-controlling interest
3. Recognise and measure goodwill or gain from bargain
purchase
Describe how to recognized and measure the assets acquired and
liabilities assumed in a business combination

Account for a business combination in the records of the acquirer

FV allocation occurs at acquisition date and requires the
recognition of:
o Identifiable tangible and intangible assets
o Liabilities
o Contingent liabilities
o Any NCI in the acquiree
o Goodwill
FVINA = fair value of identifiable net assets
Contingent Liabilities
AASB 3 requires that contingent liabilities which can be
measured reliably are recognized by the acquirer- doesnt
consider issues of probability
Therefore contingent liabilities, where a present obligation
exists, that do not qualify for recognition in acquirees books
under AASB 137 may be recognized by acquirer as part of
business combo
FV of a contingent liability is the amount that a 3rd party would
charge to assume those contingent liabilities. Reflects
expectations about possible CF
Intangible Assets
AASB 3 requires the acquirer to recognise intangible assets
where their FV can be measured reliably
E,g, trademarks, customer lists, royalty agreements, patented
technology, etc
FV of an intangible reflects market expectations about the
probability of FEB flowing to the entity
Measurement
AASB 3 requires that assets acquired and liabilities and
contingent liabilities assumed are measured at FV
FV is basically market value and is determine by judgement,
estimation and a three-level FV hierarchy
Acquirer has 12 months from acquisition date to determine FV
At first balance date after acquisition the FV may only be
provisionally determined at best estimate
Finalization of FV will result in adjustments to goodwill
Consideration transferred
Acquirer measures the consideration transferred as the FV at
the date of acquisition of
o Assets given
o Liabilities
o Equity instruments

The consideration paid by the acquirer may consist of one of a

no of the following form of consideration:
o Cash
Where the settlement is deferred, the cash must
be discounted to PV as at the date of acquisition
Discount rate used is the entitys incremental
borrowing rate
o Non-monetary assets
o Equity instruments
Where an acquirer issues their own shares as
consideration they need to determine the FV of
the shares as at the date of exchange
If listed, the FV is the quoted market price of the
shares
o Liabilities undertaken
o Cost of issuing debt/equity instruments
Transaction costs such as stamp duties,
underwriting fees and brokers fees may be
incurred in issuing equity instruments
Such costs are considered to be an integral part of
the equity transaction and should be recognised
directly in equity
D Share Capital
R
CR Cash
Journal entry:

Costs associated with the issue of debt

instruments are included in the measurement of
the liability
o Contingent consideration (likelihood that stock price will
fall not sure but understand uncertainty and willing to
pay more if event happens)
In some cases the agreement will provide for an
adjustment to the cost of the combination
contingent on a future event
E.g. the acquirer issues shares as part of their
consideration, the agreement may require
additional payment when shares fall below certain
point
If the adjustment is probably and can be
measured reliably, then the amount should be
included in the calculation of the cost of
acquisition

Acquisition related costs

L td is 1 0 %
1 0 0 ,0 0 0 s h a r e s in A L td w e r e is s u e d . T h e s h a r e p r ic e o n 1 J a n u a r y
2 0 1 2 w a s $ 1 .5 0 p e r s h a r e . T h is p r ic e r e p r e s e n te d a s ix - m o n th h ig h .
C o s t s o f is s u in g t h e s h a r e s w a s $ 1 ,0 0 0 .
D u e t o d o u b t s a s t o w h e t h e r t h e s h a r e p r ic e w o u l d r e m a i n a t o r
a b o v e t h e $ 1 . 5 0 l e v e l, A L t d a g r e e d t o s u p p l y c a s h t o t h e v a l u e o f
a n y d e c r e a s e in th e s h a r e p r ic e b e lo w $ 1 . 5 0 . T h is g u a r a n te e w a s
E x a m p le s in c lu d e f in d e r s f e e s ; a d v is o r y , le g a l
v a l id f o r a p e r i o d o f 3 m o n t h s ( t o 3 1 M a r c h 2 0 1 2 ) . A L t d b e li e v e d t h a t
a c c o u n t in g , v a lu a t io n a n d o t h e r p r o f e s s io n a l o r
t h e r e w a s a 7 5 % c h a n c e t h a t t h e s h a r e p r ic e w o u l d r e m a i n a t o r
Acquisition related costs that are directly
a b o v e $ 1 . 5 0 attributable
u n t il 3 1 M a r c h 2 0 1 2 ( a n to
d a 2a
5 % c h a n c e th a t it w o u ld f a ll
c o n s u lt in g fe e s ; [ a n d ] g e n e r a l a d m in is t r a tiv e c o s t s ,
t o $consideration
1 .4 0 )
business
combo
do
not
form
part
of
transferred,
in c lu d in g t h e c o s t s o f m a in t a in in g a n in t e r n a l
S u p p l y o f a p a t e n t t o B L t d . T h e f a i r v a lu e o f t h e p a t e n t is $ 6 0 , 0 0 0 .
a c q u i s i t i o rather
n s d e p a r t they
m e n t . are expensed as incurred
A s th e p a te n t w a s in te r n a lly g e n e r a te d it h a s n o t b e e n r e c o g n is e d in
A L td s b o o k s .
E.g. finders fees, advisory, legal accounting,
valuation and
L e g a l f e e s a n d a s s o c ia t e d w i t h t h e a c q u i s i t i o n t o t a ll e d $ 5 , 0 0 0 .

A c q u is it io n r e la t e d c o s t s t h a t a r e d ir e c t ly a t t r ib u ta b le
to a b u s in e s s c o m b in a tio n d o n o t fo r m p a r t o f th e
c o n s id e r a t io n t r a n s f e r r e d , r a t h e r t h e y a r e e x p e n s e d
a s in c u r r e d .

other professional or consulting fees

C a l c u l a ti n g c o n s i d e r a ti o n t r a n s f e r r e d :
e x a m p le

e.g.

C a lc u la tin g c o n s id e r a ti o n tr a n s fe r r e d :
$200 000 recorded on 1 Jan 2012
e x a m p le

200000/1.1 (PV) = 181818

O n 1 J a n u a r y 2 0 1 2 A L t d a c q u ir e d a ll t h e a s s e t s a n d lia b ilit ie s o f B L t d .
D e t a ils o f t h e c o n s id e r a t io n t r a n s f e r r e d a r e a s f o llo w s :
don't consider the cost of issuing shares - not part of consi
R e q u ir e d :
C a s h o f $ 4 0 0 , 0 0 0 , h a lf t o b e p a id o n 1 J a n u a r y 2 0 1 2 , w it h th e
transferred, will only reduce share capital
b a l a n c e d u e o n 1 J a n u a r y 2 0 1 3 . T h e i n c r e m e n t a l b o r r o w i n g r a t e f o r A C a l c u la t e t h e c o n s i d e r a t i o n t r a n s f e r r e d
L t d is 1 0 %
1 0 0 ,0 0 0 s h a r e s in A L t d w e r e is s u e d . T h e s h a r e p r ic e o n 1 J a n u a r y
C ash
P a y a b le n o w
2 0 0 ,0 0 0
2 0 1 2 w a s $ 1 . 5 0 p e r s h a r e . T h is p r ic e r e p r e s e n t e d a s ix - m o n t h h ig h .
C o s t s o f is s u in g t h e s h a r e s w a s $ 1 , 0 0 0 .
D i s c o u n te d to P V a t r a te o f 1 0 % D e f e r r e d ( $ 2 0 0 , 0 0 0 x 0 . 9 0 9 0 9 1 )
1 8 1 ,8 1 8
D u e t o d o u b t s a s t o w h e t h e r t h e s h a r e p r ic e w o u ld r e m a in a t o r
a b o v e t h e $ 1 .5 0 le v e l, A L t d a g r e e d to s u p p ly c a s h t o t h e v a lu e o f
B
a
s
e
d
o
n
q
u
o
te
d
S h a re s
1 0 0 ,0 0 0 x $ 1 .5 0
1 5 0 ,0 0 0
a n y d e c r e a s e in t h e s h a r e p r ic e b e lo w $ 1 . 5 0 . T h is g u a r a n t e e w a s
m a r k e t p r ic e
v a lid f o r a p e r io d o f 3 m o n t h s ( t o 3 1 M a r c h 2 0 1 2 ) . A L t d b e lie v e d th a t
G u a ra n te e
1 0 0 ,0 0 0 x ($ 1 .5 0 -$ 1 .4 0 ) x 2 5 %
2 ,5 0 0
t h e r e w a s a 7 5 % c h a n c e t h a t t h e s h a r e p r ic e w o u ld r e m a in a t o r
B a s e d o n p r o b a b ility o f s h a r e p r ic e fa l lin g b e lo w $ 1 .5 0
a b o v e $ 1 .5 0 u n til 3 1 M a r c h 2 0 1 2 ( a n d a 2 5 % c h a n c e t h a t it w o u ld f a ll
legal fees etc go to P/L
to $ 1 .4 0 )
F V o f p a te n t
P a te n t
6 0 ,0 0 0
S u p p ly o f a p a t e n t t o B L td . T h e f a ir v a lu e o f t h e p a t e n t is $ 6 0 ,0 0 0 .
A s t h e p a te n t w a s in t e r n a lly g e n e r a t e d it h a s n o t b e e n r e c o g n is e d in
T o t a l c o s t o f a c q u is i t io n
5 9 4 ,3 1 8
A L td s b o o k s .
L e g a l f e e s a n d a s s o c ia t e d w it h t h e a c q u is it io n t o t a lle d $ 5 , 0 0 0 .
S h a r e is s u e c o s ts , le g a l fe e s a n d s ta m p d u ty a r e e x c lu d e d f r o m th e c a lc u la tio n
Shares in acquired in an acquiree
When shares are acquired rather than the net assets the
investment is accounted for in accordance with AASB 9
Financial Instruments
AASB 9 requires the investment to be accounted for at FV
The accounting treatment in the acquirers books at acquisition
C a l c u l a t i n g c o n s i d e r a ti o n tr a n s f e r r e d :
is: e x a m p l e
D Investment in A
R
R e q u ire d :
C a l c u l a t e t h e c o n s i d e r a t i o n t r a n s CR
f e r r e d Cash
Subsequent to initial recognition the acquirer has the choice of
C ash
P a y a b le n o w
2 0 0 ,0 0 0
recognizing
movements in FV:
D i s c o u n t e d to P V a t r a t e o f 1 0 %
D e fe r r e d ($ 2 0 0 ,0 0 0 x 0 .9 0 9 0 9 1 )
1 8 1 ,8 1 8
o In P&L
B a s e d o n q u o te d
S h a re s
1 5 0 ,0 0 0
m a r k e t p r i co
e
OCI1 0 0 , 0 0 0 x $ 1 . 5 0
G u a ra n te e
1 0 0 ,0 0 0 x ($ 1 .5 0 -$ 1 .4 0 ) x 2 5 %
2 ,5 0 0
Transaction
costs are accounted
for as follows:
B a s e d o n p r o b a b i l i ty o f s h a r e p r i c e f a l l i n g b e l o w $ 1 . 5 0
o If subsequent movements
in FV are accounted for
F V o f p a te n t
P a te n t
6 0 ,0 0 0
T o t a l c o s t o f a c q u i s i t i o n through P&L expenses
5 9 4 ,3 1 8
o If subsequent movements in FV are accounted for in OCI
included
of costs of investments
S h a r e is s u e c o s ts , le g a l fe e s
a n d s ta
m p d u ty a r e e x c l u din
e d f r omeasurement
m th e c a l c u l a ti o n

Prepare an acquisition analysis and account for the recognition of

goodwill or gain from bargain purchase
Goodwill

in th e F V I N A

Land

2 6 0 ,0 0 0

2 5 7 ,0 0 0

2 4 ,0 0 0

3 0 ,0 0 0

1 8 ,0 0 0

1 6 ,0 0 0

A c c o u n ts p a y a b le

(3 5 ,0 0 0 )

(3 5 ,0 0 0 )

B a n k o v e rd ra ft

(5 5 ,0 0 0 )

(5 5 ,0 0 0 )

5 7 2 ,0 0 0

5 8 0 ,0 0 0

In v e n to ry

G o o d w i l l i s c o n s i d e r e d t o b e a r e s i d u a l i n t eA rc ec osu tn t s

r e c e iv a b le

G o o d w ill is a n u n id e n t if ia b le a s s e t w h ic h is in c a p a b le o f
b e i n g i n d i v i d u a l l y i d e n t i f i e d a n d s e p a r a t e l y N re et ac sos eg t sn i s e d

B might hav

20% of $50

B L t d i s c u r r e results
n t l y b e i n g s u e din
b y agoodwill,
p r e v i o u s c u s t o m e AASB
r. T h e e x p e 3
c te d d a m a g e s
When a business combination
is $ 5 0 , 0 0 0 . L a w y e r s e s t im a t e t h a t t h e r e is a 2 0 % c h a n c e o f lo s in g t h e c a s e .
requires that goodwill is:
o Recognised as an asset
o Measured at its cost at the date of the acquisition
A c c o u n ti n g i n t h e r e c o r d s o f th e a c q u i r e r :
Goodwill = consideration transferred acquirers interest
G o o d w i l l in the
FVINA
u r n a l e n t r i e s i n t h e b o o k s o f A L td to a c c o u n t f o r th e a c q u i s i ti o n
Goodwill is considered to be a residualJ ointerest
P
l
a
i p om fe n th
t e a c q u ir e r :
3 6 7 ,0 0 0
A c c o u n tiasset
n g i n thwhich
e r e c not &ris
de q suincapable
Goodwill is an unidentifiable
of being 2 5 7 , 0 0 0
Land
A c c o u n ti n g i n t h e r e c o r d s o f th e a c q u i r e r :
G o o d w ill
FV
In v e n to r y
3 0 ,0 0 0
individually identified and separately recognised
G o o d w ill
A / C R e c e iv a b le
1 6 ,0 0 0
e.g.
R e q u ir e d :
G o o d w ill

a)

2 4 ,3 1 8

R e s id u a l in te r e s t

C a l c u l a t e t h e F V I N AA / Ca cP qa yua ibr l ee d a n d d e t e r m i n e t h e
g o o d w i l l o n a c q u i s i tBi oa nn k . o / d r a f t
D e t a i l s o f B L t d s a s s e t s a n d l i a b il i t i e s a c q u i r e d b y A b L) t d aP r re e ap s a f ro el l o t wh se : j o u r n a l P er on v ti sr yi o n i nf o rt hd ae m ba go e os k s C oo nft i nAg e nL t tl ida b i l itt oy
a c c o u n t f o r t h e a c q uC ai ss ih t i o n

E x a m p le

CA

FV

P l a n t & e q u ip m e n t

3 6 0 ,0 0 0

3 6 7 ,0 0 0

Land

2 6 0 ,0 0 0

2 5 7 ,0 0 0

In v e n to ry

2 4 ,0 0 0

3 0 ,0 0 0

A c c o u n ts r e c e iv a b le

1 8 ,0 0 0

1 6 ,0 0 0

A c c o u n t s p a y a b le

(3 5 ,0 0 0 )

(3 5 ,0 0 0 )

B a n k o v e rd ra ft

(5 5 ,0 0 0 )

(5 5 ,0 0 0 )

D e f e r r e d c o n s id e r a t io n p a y a b le

F a i r v a l u e o f r e c o r d e d nS eh ta rae s cs ae pt os i t a l

5 8 0 ,0 0 0

3 5 ,0 0 0
5 5 ,0 0 0
1 0 ,0 0 0
2 0 0 ,0 0 0
C o m p o n e n ts o f
cost of acq n

C a r r y i n g a m o u n ts in B s b o o k s a r e ir r e l e v a n t to A

P r o v is io n f o r lo s s in v a lu e o f s h a r e s

1 8 1 ,8 1 8
1 5 0 ,0 0 0
2 ,5 0 0

L e s s : C o n t i n g e n t l i a b i l i tGy a r ien od na ms a al e g oe f s p a t e n t
(1 0 ,0 0 0 )
6 0 ,0 0 0
s i n might
g th e c a s ehave to pay $50 000 if they lose w 20% lik
( $ 5 0 , 0 0 0 x 2 0 % ) B a s e d o n p r o b a b il i ty o f l o B
F V IN A
5 7 0 ,0 0 0
C o s t o f a c q u is it io n

P e r S lid e 1 8

5 9 4 ,3 1 8

20% of $50 0002 =4 , $10000

318

G o o d w ill o n a c q u is itio n

R e s i d u a l in t e r e s t

A c c o uNne tit a ns sge t si n th e r e c o r d5 7 s2 , 0o0 f0 th5 8e0 , a0 0c0 q u i r e r :

G o o d w ill
B L td is c u r r e n tly b e in g s u e d b y a p r e v io u s c u s t o m e r. T h e e x p e c te d

dam ages
is $ 5 0 , 0 0 0 . L a w y e r s e s t im a t e th a t t h e r e is a 2 0 % c h a n c e o f lo s in g t h e c a s e .

A c c o u n ti n g i n t h e r e c o r d s o f th e a c q u i r e r :
G o o d w ill

J o u r n a l e n tr ie s in th e b o o k s o f A L td to a c c o u n t fo r th e a c q u is itio n
P la n t & e q u ip m e n t

3 6 7 ,0 0 0

Land

2 5 7 ,0 0 0

In v e n to ry

3 0 ,0 0 0

A / C R e c e iv a b le

1 6 ,0 0 0

G o o d w ill

2 4 ,3 1 8

R e s i d u a l i n te r e s t

FV

J o u r n a l e n t r ie s i n t h e b o o k s o f A L td to a c c o u n t f o r th e a c q u i s i ti o n ( c o n t. )

A /C P a y a b le

3 5 ,0 0 0

B a n k o /d ra ft

5 5 ,0 0 0

FV

L e g a l fe e e x p e n s e s

5 ,0 0 0

S h a re c a p o ita l

1 ,0 0 0

C ash

6 ,0 0 0

A cP rco voi s ui o nn f otir nd agm a igne s th C eo n t inr eg e cn t ol i a bri ldi ty s o f th e a c q u i r e1 r0 :, 0 0 0

C ash
2 0 0 ,0 0 0
G o o d w ill
D e f e r r e d c o n s i d e r a t i o n p a y a b le
S h a r e c a p o ita l

C o m p o n e n ts o f
cost of acq n

1 8 1 ,8 1 8
1 5 0 ,0 0 0

R Pe rqo vui s ii ro en df o :r l o s s i n v a l u e o f s h a r e s
2 ,5 0 0
a )G a i nC o an l sc aul el ao tf ep a tt he net F V I N A a c q u i r e d a n d d e t e r m i n e 6t h0 , e0 0 0
g o o d w ill o n a c q u is it io n .
b ) Gain
P r e p a from
r e t h e jbargain
o u r n a l e n t r purchase
y in th e b o o k s o f A L td to
a c c o u n t fo r th e a c q u is itio n

Where the acquirers interest in the FVINA exceeds the

5 8 0 ,0 0 0
negative
goodwill arises this is
C a r r y i n g a m o u n ts i n B s b o o k s a r e i r r e l e v a n t to A
referred to as a gain on bargain purchase
L e s s : C o n t in g e n t lia b ilit y r e d a m a g e s
(1 0 ,0 0 0 )

A gain on bargain purchase for

the acquirer arises from:
( $ 5 0 , 0 0 0 x 2 0 % ) B a s e d o n p r o b a b i l i ty o f l o s i n g th e c a s e
A c c o u n ti n g i n oth e Errors
r e c o r d sino measuring
f th e a c q u i r e rFV
:
F V IN A
5 7 0 ,0 0 0
G o o dP ewr S il ildle 1 8 standards requirements
A c c o u n ti n g i n t h e r e c o r d s o f th e a c q u i r e r :
C o s t o f a c q uo
i s i t i o nAnother
5 9 4 ,3 1 8
G a in fr o m b a r g a in p u r c h a s e
R e s i dnegotiating
u a l in te r e s t
skills
G o o d w i l l o n aoc q u Superior
is itio n
2 4 ,3 1 8
J o u r n a l e nt r i e s The
i n t h e b existence
o o k s o f A L t d t o a of
c c o ua
n t fgain
o r t h e a con
q u i s i tbargain
i o n ( c o n t .)
purchase
W h e r e t his
e aa
c q rare
u i r e r s event
in te r e s t in t h e F V I N A e x c e e d s th e
c o n s i dthe
e r a t i oacquirer
n t r a n s f e r r e d ,is
n e g a tiv e g o o d w ill a r is e s th is

In
the
event
of
a
gain
on
bargain
purchase
L e g a l fe e e x p e n s e s
5 ,0 0 0
is r e f e r r e d to a s a g a in o n b a r g a in p u r c h a s e
S h a r e c a p o i t a lrequired to recognise1 ,any
000
gain immediately
in the P&L
A g a in o n b a r g a in p u r c h a s e fo r t h e a c q u ir e r a r is e s f r o m :
F a i r v a l uconsideration
e o f r e c o r d e d n e t a s s etransferred,
ts

C ash

FV

6 ,0 0 0

E r r o r s in m e a s u r in g f a ir v a lu e
A n o th e r s t a n d a r d s r e q u ir e m e n ts
S u p e r io r n e g o t ia t in g s k ills
T h e e x i s t e n c e o f a g a in o n b a r g a in p u r c h a s e is a r a r e
event
In t h e e v e n t o f a g a in o n b a r g a in p u r c h a s e th e a c q u ir e r
is r e q u ir e d to r e c o g n is e a n y g a in im m e d ia t e ly in th e
p r o fit & lo s s
R e fe r to e x a m p le 1 0 .3 o f te x t

Chapter 11

Describe when to undertake an impairment test

Explain how to undertake an impairment test for an individual asset
Identify a cash-generating unit, and account for an impairment loss
for a cash-generating unit
Apply the impairment model to a cash-generating unit and account
for the impairment of goodwill