Business Combination - Statutory Merger and Consolidation PDF

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Summary

Prof. Kathleen Tano, CPA...

Description

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Introduction A business combination occurs when a corporation and one or more other business are brought together as a single entity to carry on the activities of the previously separated enterprises.

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Legal Point of View Business combinations are classified as follows: 1. Acquisition of Assets – the acquiring corporation must negotiate the management to obtain the assets (and assume the liabilities) of the company being acquired in exchange for cash, securities or other consideration. Upon consumption, the acquired company ceases to exist as a separate economic, legal, and accounting entity. Acquisition of assets and consumption of liabilities of both companies are recorded in the same set of books. Acquisition of assets and assumption of liabilities may either be: a. Statutory Merger – when two or more corporations merge into a single entity which shall be one of the constituent corporations. In other words, on Constituent Corporation acquires the other constituent corporation and retains original identity while the acquired corporations are automatically dissolved. b. Statutory Consolidation – when two or more consolidate and term a new corporation from then on. 2. Stock Acquisition – An Acquiring corporation may acquire majority ownership interest of outstanding common stock or control of a corporation and the separate legal entity of each enterprise are preserved or both continue their existence. In this case, the acquiring corporation is known as the parent and the acquired corporation as subsidiary.

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The following summaries are based on PFRS 3 1. Definition of business combination – transaction of event in which an acquirer obtains control over one or more business 2. Scope i. Accounting by joint arrangement in its FS upon its formation ii. The acquisition of an asset or group of assets that does not constitute a business iii. A combination between entities or business under common control 3. Method of Accounting - all business combination within the scope, the standard must be accounted for using the acquisition method. The pooling of interest method is strictly prohibited. The acquisition method consist of: i. Identity of the acquirer ii. Determining the acquisition date and consideration transferred iii. Recognizing and measuring a. The identifiable assets acquired, the liabilities assumed b. Any non controlling interest in the acquiree

iv. Recognizing goodwill, or in case of bargain purchase, a gain

Identifying the acquirer - control is the power to govern the financial and operating policies of an entity so as to obtain benefits from its activities. The acquirer is the combined entity that obtains control of the other combining entities or business. Other indicators of which party was the acquirer in any given business combinations are as follows: 1. The FV of one entity is significantly greater than that of the other combining enterprise; in such case the larger entity would be deemed the acquirer 2. The combination is effected by an exchange of voting stock for cash; the entity paying the cash would be deemed to be the acquirer 3. Management of one enterprise is able to dominate selection of management of the combined entity; the dominant entity would be deemed to be the acquirer Acquisition Date – The acquisition date is defined as the date on which the acquirer obtains control of the acquiree. This is the date the acquirer legally transfers the consideration, acquires the assets and assumes the liabilities of the acquiree – the closing date Identifying and Measuring Consideration Transferred. The consideration transferred: 1. Is measured at fair value at acquisition date 2. Is calculated as the sum of the acquisition date fair value of; a. The assets transferred by the acquirer b. The liabilities incurred by the acquiree to former owners of the acquiree, and c. The entity interest issued by the acquirer. In specific exchange, the consideration transferred to the acquiree could include just one form of consideration, such as cash but could equally well consist of a number of forms such as cash, other assets, shares and contingent consideration. Acquisition-related costs – are costs the acquirer incurs to effect a business combination. Those costs include finder’s fee, advisory, legal accounting, valuation and other professional or consulting fees; general administrative costs, including the cost of maintaining on internal acquisitions department, and costs of registering and issuing debt and equity securities. Under PFRS 3, the acquirer is required to recognized acquisition related cost as expenses in the periods in which the costs are incurred and the services are received with one exception recognized in accordance with PAS 32 and PAS 39 Cost of Issuing Debt and Equity Securities 1. Cost of issuing instruments. In issuing equity instruments such as shares as part of the consideration paid, transaction cost such as stamp duties, professionals adviser fees, underwriting cost and brokerage fees may be incurred. They should be treated as reduction in

the share capital ( debited to share premium) of the entity of such cost should reduce the proceed from the entity issue, net of any related income tax benefit. 2. Similarly, the cost of arranging and issuing financial liabilities are an integral part of the liability issue transaction. These cost are included in the initial measurement of the liability as bond issue cost. 3. Therefore: a. Direct cost of combination – expense b. Indirect cost of combination – expense c. Cost of issue and register stock – debited to APIC d. Cost to issue debt security – bond issue cost

Contingent consideration – According to Par 39 of PFRS 3, consistent with other measurements in transfer consideration, the acquirer shall recognize the acquisition date fair values of contingent consideration as part of the consideration transferred. Recognition Principle of Assets Acquired and Liabilities Assumed. – As of the acquisition date, the acquirer shall recognize, separately from goodwill, the identifiable assets acquired, the liability assumed and any non controlling interest in the acquiree. Measurement Principle of Assets Acquired and Liabilities Assumed. Identifiable assets and liabilities assumed are measured at their acquisition date fair values One of the problems that may arise in measuring the assets and liabilities of the acquiree is that the initial accounting for the business combination may be incomplete by the end of the reporting period. Non Controlling interest in the acquiree – This will affect the calculations only where the acquirer obtains control in the acquiree and not an acquisition of assets and assumption of liabilities. Any non controlling interest in the acquiree is measured either: 1. At fair value (using the full goodwill approach) or 2. At the non contolling interest’s proportionate share of the acquiree’s identifiable net assets (using the partial goodwill approach) Recognizing and Measuring Goodwill or a Gain from Bargain Purchase -

Statutory Merger and statutory consolidation (Acquisition of an assets and assumption of liabilities). For this type of business combination, the comparison should be between the following: I. Consideration transferred, and II. Acquirer’s interest in the net fair value of the acquiree’s identifiable assets acquired and liabilities assumed

Goodwill arises when I exceeds II. On the other hand, bargain purchase arises when II exceeds I. When a bargain purchase occurs, a gain on acquisition is recognized in the profit or loss. It should be noted that bargain purchase gain would arise only in exceptional circumstances. Therefore, before determining that gain has arisen, the acquirer has to: -

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Reassess whether it has correctly identified all of the assets acquired and all of the liabilities assumed. The Acquirer should recognize any additional assets or liabilities that are identified in that review. Any Balance should be recognized immediately in profit or loss.

Consolidation of Financial Statements – the FS of a group in which the assets liabilities equity income expenses and cash flows of the parent and its subsidiaries are presented as those of a single economic entity Separate Financial Statements – FS presented by the parent, an investor with joint control of, or significant influence over, an investee, in which the investments are accounted for at cost or in accordance with PAS 39 or PFRS 9 Financial instruments Control of an investee – an investor controls an investee when the 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 Preparation of consolidated Financial Statement A parent prepares consolidated FS using uniform accounting policies for like transactions and other events in similar circumstances. However, a parent need not present consolidated financial statements if it meets all of the following conditions: 1. It is wholly owned subsidiary or is partially owned subsidiary of another entity and its other owners, including those not otherwise entitled to vote, have been informed about and do not object to, the parent not presenting consolidated financial statement. 2. Its debt and equity instruments are not traded in a public market 3. It did not file, nor it is the process of filing, its financial statements with a securities commission or other regulatory organization for the purpose of issuing any class of instruments in public market 4. Its ultimate or any intermediate parent of the parent procedure consolidated financial staments available for public use that comply with PFRSs Consolidation Procedure: 1. Combine all like items of assets, liabilities, equity income expenses, and cash flows of the parent and those subsidiaries.

2. Offset the carrying amount of the parent’s investment in each subsidiary and parent’s portion of equity of each subsidiary 3. Eliminate in full intra-group assets and liabilities, equity, income and expenses and cash flows relating to transactions between entities of the group profit or losses resulting from intra group transactions that are recognized in assets such as inventory and fixed assets. Acquisition and disposals that do not result in a change of control 1. Changes in a parent’s ownership interest in a subsidiary that do not result in a loss of control are accounted for as an equity transaction a. Goodwill is not remeasured b. No gain or loss is recognized on such transaction 2. Any difference between the change in the non controlling interest and FV of the consideration paid or received is recognized directly to equity (APIC) and attributed to the owners of the parent Loss of Control. A parent can lose control of a subsidiary through: 1. 2. 3. 4.

Sale Distribution Through some other transaction or event in which it takes no part When control is lost ( gain or loss is recognized in P/L)...