BUSINESS ACQUISITIONS

Profit prior to incorporation Profit prior to incorporation is that profit which a company gets between the period of date of buying and date of incorporation. Profit and loss of prior period and post period is divided separately because the prior period profit and loss is always credit and charged from capital reserve A/c. Post period profit and loss are credited and charged from Profit & Loss A/c.

Profit prior to incorporation Suppose, A company buys XYZ company on 1st Jan. 2010 and it has to incorporate at 1st April 2010. Then profit between 1st Jan. 2010 and 1st April 2010 will be profit prior to incorporation. This profit can not be used for paying dividend to shareholders. Because current shareholder’s capital is not involved for this profit, so this will be capitalized profit and it will be transferred to capital reserve account. If company gets loss prior to incorporation, it will be transferred to goodwill account.

Calculation Methods of computing profit and loss prior incorporation:- 1st :- close of old books and open new books with the assets and liabilities as the existed at the date of incorporation. In this way, automatically the result to that will be adjusted. 2nd :- split up the profit for the year of the transfer of the business to the company between “pre-Incorporation” and “Post-Incorporation” periods. This is done either on the time basis or on the turnover basis or by a method which combines the two.   Basis of allocation of items between ‘pre’ and ‘post’ incorporation period:- Time basis:- some types of expenses and income which are divided between pre and post period item on the basis of time ratio. For example-Depreciation, salary & wages, Rent and trade expenses etc. Turnover basis:- some types of expenses and income which are divided between pre and post period item on the basis of turnover. For example-sales promotion expenses, bad debts, sales commission and selling expenses.

Important points Some expenses which are treated as always pre- Incorporation period like promoters remuneration, survey report and expenses regarding articles of association and memorandum of association. Some expenses which are treated as always post- Incorporation period like directors fees and debenture interest.

3. A company taking over a running business may also agree to collect its debts as an agent for the vendor and may further undertake to pay the creditor on behalf of the vendors. In such a case, the debtors and creditors of the vendors will be included in the accounts for the company by debit or credit to separate total accounts in the General Ledger to distinguish them from the debtors and creditors of the business and contra entries will be made in corresponding Suspense Accounts. Also details of debtors and creditors balance will be kept in separate ledger.

4. The vendor is treated as a creditor for the cash received by the purchasing company in respect of the debts due to the vendor, just as if he has himself collected cash from his debtors and remitted the proceeds to the purchasing company. 5. The vendor is considered a debtor in respect of cash paid to his creditors by the purchasing company. The balance of the cash collected, less paid, will represent the amount due to or by the vendor, arising from debtors and creditors balances which have been taken over, subject to any collection expenses. 6.The balance in the suspense accounts will be always equal to the amount of debtors and creditors taken over remaining unadjusted at any time.

EXAMPLE Subhash ltd. was incorporated on 1st march, 2010 and received its certificate of commencement of business on 1st April, 2010. The company bought the business of M/S small and co. with effect from 1st Nov. 2009. From the following figures relating to the year ending 31st Oct. 2010, find out the profits available for dividends. a) Sales for the year were Rs. 6,00,000 out of which sales up to 1st march , were Rs. 2,50,000 b) Gross profit for the year was Rs. 1,80,000 c) The expenses debited to the profit and loss account were : rent 9000 salaries 15000 director‘s fees 4800 interest on debentures 5000 discount on sales 3600 depreciation 24000 general expenses 48000 advertising 18000 stationery expenses 3600 commission on sales 6000 bad debts 500 relate to debts created prior to incorporation 1500 interest to vendor on purchase consideration up to 1st may 2010

SOLUTION Working Notes : a) Sales ratio is 250000 : 350000 or 5:7 b) time ratio except for interest to vendor 4 months : 8 months or 1:2 c) time ratio for interest to vendor 4 months : 2 months or 2:1 Director fees and interest on debentures relate to post - incorporation period.

Conversion OR SALE of partnership firm into limited company The objective of limiting the personal liabilities of the partners, an existing partnership firm may sell its entire business to an existing limited company, or may convert itself into a limited company. The former is the case of absorption of a partnership firm by the joint stock company whereas, the latter is the case of flotation of a new joint stock company so as to take over the business of the partnership firm. In both of these cases, the existing partnership firm is dissolved and all the books of accounts are closed. Thus when a partnership firm is sold or converted into a company, the same accounting procedure is followed as for simple dissolution of a firm.

PURCHASE CONSIDERATION The purchase consideration (price) in between the vendor (dissolving) firm and the purchasing company is fixed as mutually agreed upon. It may or may not be specified in a lump sum figure. When it is not specified in a lump sum figure, the difference of agreed values of acquired assets over agreed amount of liabilities are undertaken. The purchase price is discharged by the purchasing company either in the form of cash or shares (equity or preference) or debentures or a combination of two or more of these. The shares or debentures may be issued by the purchasing company, at par, at a premium or at a discount. In the absence of any agreement, the shares received from the purchasing company is distributed among partners in the ratio of their final claim i.e. in the ratio of their capital standing after all the adjustments.

Conversion of partnership into limited company In the books of vendor/converting firm , the following journal entries are passed : 1) For closing the accounts of assets Realisation account Debit Assets Account Credit ( At book value ) 2) For sale of assets and amount received Cash /Bank Account Debit Assets Account Credit Realisation Account Credit 3) For closing the account of liabilities Liabilities Account Debit Realisation Account Credit 4) For Payment of liabilities Realisation Account Debit ( Loss of payment ) Liabilities Account Debit Cash / Bank account credit

5 ) For Assets and liabilities are taken over by new company New Company Account Debit ( Purchase price = Agreed value of assets - agreed value of liabilities ) Realisation account Credit 6) For Payment of expenses of realisation a) If pay by partner Realisation Account Debit Cash / Bank Account Credit b) If pay by new company New company Account Debit Cash /Bank account Credit 7) Closing of Realisation account If profit Realisation account Debit partner's capital Account Credit 8 ) Receipt of purchase price Cash / Bank /Shares / Debentures Account Debit Purchasing company Account Credit 9 ) On distribution of shares / debenture and cash from purchasing company Partner's capital account Debit ( dividing in adjusted capital ratio ) Cash/Bank/ Shares /Debenture Account

Entries in the books of purchasing company Assets Account...........................Dr. Goodwill Account........................Dr. To liabilities To share capital To share premium (Being assets and liabilities taken over) Note: In case debit higher than credit, capital reserve is credited

Advantages of converting All the assets and liabilities of the firm immediately before the conversion become the assets and liabilities of the company. No Stamp Duty- All movable and immovable properties of the firm automatically vest in the Company. No instrument of transfer is required to be executed and hence no stamp duty is required to be paid. No Capital Gain Tax- No Capital Gains tax shall be charged on transfer of property from Proprietorship firm to Company. Continuation of Brand Value- The goodwill of the Proprietorship firm and its brand value is kept intact and continues to enjoy the previous success story with a better legal recognition. Carry Forward and Set off Losses and Unabsorbed Depreciation- The accumulated loss and unabsorbed depreciation of Partnership firm is deemed to be loss/ depreciation of the successor company for the previous year in which conversion was effected. Thus such loss can be carried for further eight years in the hands of the successor company.

Mandatory Conditions All partners of the partnership firm shall become shareholders of the company in the same proportion in which their capital accounts stood in the books of the firm on the date of the conversion. The partners receive consideration only by way of allotment of shares in company and the partners share holding in the company in aggregate is 50% or more of its total voting power and continue to be as such for 5 years from the date of conversion.

Requirements Registered Partnership firm with minimum 7 Partners Minimum Share Capital shall be Rs. 100,000 for conversion into a Private Limited Company Minimum Share Capital shall be Rs. 500,000 for conversion into a Public Limited Co. If the above requirement is not fulfilled by the firm, then the Partnership deed should be altered Minimum 7 Shareholders Minimum 2 Directors (for Private Limited Co.) and 3 Directors (for Public Limited Co.) The directors and shareholders can be same person DIN (Director Identification Number) for all the Directors DSC (Digital Signature Certificate) for two of the Directors Process Filing of requisite form for Conversion Preparation of Foundation documents of the Company Filing for name approval Filing of Incorporation documents Receiving certificate of incorporation

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