1. Accounting for Groups at the Date of Acquisition
Chapter 22
Accounting for Groups at the Date of Acquisition

2. Main purpose
The main purpose of this chapter is to explain the reasons for preparing consolidated financial statements at the date of acquisition and to show how to prepare such statements.

3. Objectives By the end of this chapter, you should be able to:
explain the need for consolidated financial statements;
define the meaning of IFRS 10 terms ‘control’ and ‘subsidiary’;
prepare consolidated accounts at the date of acquisition and calculate goodwill for a wholly-owned subsidiary;
explain the treatment of goodwill;
account for non-controlling interests under the two options available in IFRS 3;
understand the need for fair value adjustments and prepare consolidated financial statements reflecting such adjustments.

4. Accounting for groups at date of acquisition
Definition of a group under IFRS 10
Definition of control:
rights to variable returns
ability to affect those returns
through power over the investee
Reasons for preparing consolidated accounts.

5. Definition of a group One enterprise controls another enterprise
Directly
Indirectly.

6. Control considerations
Control assumed if > 50% of voting rights
Control may exist where < 50%.

7. Control may exist where < 50% voting rights
Agreement with other investors gives power
over > 50%
Power over financial and operating policies by an agreement
Power to appoint or remove majority of board members
Power to cast the majority of votes at a board meeting.

8. Reasons for preparing consolidated accounts
Because many corporations have controlling interests in other business entities, financial statements for the parent company alone can be misleading. For this reason, parent companies are legally required to prepare consolidated financial statements that include data about the financial performance of subsidiaries
Prevent manipulation
Inflating sales by selling within the group
More meaningful EPS figure
Better measurement of management performance using ROCE.

9. Alternative methods of preparing consolidated accounts
The purchase method
Fair value of parent company’s investment
Fair value of identifiable net assets in subsidiary
Difference is goodwill
Pooling of interests method
No longer permitted under IFRS 3.

10. Purchase method illustrated – the Rose group
1 January 20X0
Rose plc acquired 100% of 10,000 £1 common shares in Tulip plc for £1.50 per share.
In calculating the cost of the resources acquired, remember the accounting equation,
A = L + E,
Or A – L = E, where A - L = net assets

11. The Rose group statement of financial position on acquisition
Rose has bought the Equity in Tulip, which is represented by Tulip’s net assets.
Tulip’s equity is £14,000, and the amount paid was 10,000 x £1.50 = £15,000

12. The Rose group statement of financial position on acquisition (Continued)

13. The Rose group statement of financial position on acquisition (Continued)
Why do you think the share capital and retained earnings of Tulip are not added to the balance sheet of the group (combined companies)?
Answer:
The value of the equity has already been included in the value of the assets and liabilities acquired.

14. Treatment of goodwill Positive goodwill Negative goodwill
Impairment test in accordance with IAS 36
Must be done yearly
Once applied, it cannot be reversed in a subsequent accounting period
Negative goodwill
Recognise immediately in Income Statement under IFRS 3.
Why does negative goodwill occur?
Errors in measuring fair values of acquired company
Recognition of future costs to be incurred
Purchased at a bargain price

15. Non-controlling interests
Share of acquired company not held (owned) by parent
Non-controlling – also called “minority interest”
All assets and liabilities controlled are included in the consolidated accounts
Non-controlling interest = amount not owned by parent.

16. Non-controlling interest in consolidated statement of financial position
Method 1
Share of net assets of subsidiary at reporting date
Method 2
Share of net assets of subsidiary PLUS goodwill apportioned to the non-controlling interest.

17. The Bird group 1 January 20X0
Bird acquired 80% of 10,000 £1 common shares in Flower for £1.50 per share.
Therefore, Bird will own 80% of 10,000 shares = 8,000 shares, which represent 80% of Flower’s equity.
The cost of these shares is:
8,000 x £1.50 = £12,000

18. Bird group – statement of financial position on acquisition
Non-controlling interest

19. Bird group – statement of financial position on acquisition (Continued)

20. Bird group – statement of financial position on acquisition (Continued)

21. Non-controlling interest using method 2
If using Method 2 to measure the non-controlling interest, we need to know the fair value of the non-controlling interest in the subsidiary at the date of acquisition. Let us assume in this case that this fair value is £2,900
Goodwill that is attributed to the non-controlling interest is as follows:
Fair value of non-controlling interest at date of acquisition
20% (the share attributable to the non-controlling interest) of the net assets at the date of acquisition (£14,000)
Attributable goodwill
100
(2,800)
2,900

22. The consolidated statement of financial position using method 2
Non-current assets other than goodwill
31,000
Goodwill (£800 + £100)
900
Net current assets
14,000
45,900
Share capital
16,000
Retained earnings
27,000
Non-controlling interest (£2,800 + £100)
2,900

23. Treatment fair value and book value differ (IFRS 3)
Assume Flower’s non-current assets were
Book value £11,000
Fair value £11,600
Recognise parent’s %
80% of (11,600 − 11,000) = 480
Increase non-current assets
Reduce goodwill.

24. Fair value and book value differ (Continued)
Non-controlling interest

25. Fair value and book value differ (Continued)

26. How to calculate fair values – IFRS 3
Tangible assets
Fair Value based on market value
Depreciated replacement cost if no market value available
Intangible assets
Best arm’s-length estimate if no market value.

27. How to calculate fair values – IFRS 3 (Continued)
Inventories
Finished goods
Selling price less cost of sale and reasonable profit
Work-in-progress
Selling price less cost to complete, cost of sale and reasonable profit
Raw materials
Current replacement cost.

28. How to calculate fair values – IFRS 3 (Continued)
Monetary assets and liabilities
Amount to be received or disbursed
Discounted if significant
Marketable securities
Current market values
Non-marketable securities
Estimated value based on performance.

29. IFRS 13 Fair Value Measurement price in an orderly transaction
between market participants.

30. Review questions
Explain how negative goodwill may arise and its accounting treatment.
Explain how the fair value is calculated for:
Tangible non-current assets
Inventories
Monetary assets.
Explain why only the net assets of the subsidiary and not those of the parent are adjusted to fair value at the date of acquisition for the purpose of consolidated accounts.

31. Review questions (Continued)
Coil SA/NV is a company incorporated under the laws of Belgium. Its accounts are IAS compliant. It states in its 2003 accounts (in accordance with IAS 27, para. 13):
Principles of consolidation
The consolidated Financial statements include all subsidiaries which are controlled by the Parent Company, unless such control is assumed to be temporary or due to long-term restrictions significantly impairing a subsidiary’s ability to transfer funds to the Parent Company.
Required: Discuss whether these are acceptable reasons for excluding a subsidiary from the consolidated financial statements under the revised IAS 27.

32. Review questions (Continued)
6. Parent plc acquired Son plc at the beginning of the year. At the end of the year there were intangible asset reported in the Consolidated accounts for the value of a domain name and customer lists. These assets did not appear in either the Parent or Son’s Statements of Financial Position.
Required: Discuss why assets only appear in the consolidated accounts.