Last update 04/12/2019
Quick checks Business Combinations – A business combination is the joining together of separate entities or business operations into one reporting group by obtaining control by one party (the acquirer and parent company or parent company’s subsidiary) over the other party (the acquiree).
OR Quick checks Business Combinations Quick checks Business Combinations Quick checks Business Combinations
A business combination is a transaction in which one entity obtains control of one or more businesses. A business is a mixture of inputs (e.g. assets, contracts, employees) and processes capable of converting these inputs into outputs (products, costs reductions and other economic benefits).
The definition of a business in IFRS 3 is rather inclusive and in case of doubts whether a company acquired a business or just a group of assets – it’s probably a business. The phrase ‘capable of’ with reference to producing outputs makes it easier for start-ups to qualify as business, as in fact input and processes will be enough to meet the IFRS 3 definition of a business.
Not acquiring a business = Quick checks Business Combinations
In case of an acquisition of assets that do not constitute a business, the acquirer recognises individual identifiable assets (and liabilities) by allocating the cost of acquisition on the basis of their relative fair values at the date of purchase. Goodwill is not recognised (IFRS 3 2b).
Reverse acquisitions = Quick checks Business Combinations
IFRS 3 B19-B27 provide guidance on a particular kind of business combination called reverse acquisitions, or reverse takeovers, or reverse IPO (initial public offering). Reverse acquisition occurs when a (usually) publicly traded company is taken over by a private company. Quick checks Business Combinations
First, owners of the private company obtain control over the public company by buying adequate number of shares on the market.
Second, the public company ‘acquires’ the private company by issuing its shares to owners of the private company.
Finally, both entities are merged into one entity or operations of the private company are transferred to the public company. In the end, the benefit for the owners of a private company is that they can take their business public without going through costly and lengthy IPO process.
The public company is usually a legal acquirer as it issues shares to owners of the private company in exchange for shares in the private company. Despite the legal classification, if the guidance in IFRS 3 B14-B18 indicates that the private company is de facto the acquirer, the business combination should be accounted for with the private company as the acquirer.
Key points
Here are some of the key points for consideration in accounting for a Business Combination:
- Goodwill is the difference between the acquirer’s interest in the net amount of identifiable assets acquired and the cost of the business combination. After initial recognition it is carried at cost less accumulated amortisation and impairments;
- Acquired assets/liabilities etc. are initially measured at fair value except deferred tax and employee benefits;
- The acquisition method of accounting is to be used on all acquisition with the exception of certain group reconstructions and public benefit entities;
- Contingent consideration is recognised in the purchase cost if probable that it can be reliably measured with subsequent adjustments going to goodwill (See Adjustments to the cost of a business combination contingent on future events in Business Combinations and Goodwill). Contingent consideration may need to be present valued depending on the time period;
- Adjustments to the estimates of fair values can be made within 12 months of the acquisition however if the adjustment straddles the following year they must be adjusted for retrospectively (the measurement period);
- Measure non-controlling interest at share of net assets;
- Cost of business combination is the total of fair value of assets given, liabilities assumed and equity instruments issued at each stage of the transaction plus directly attributable costs;
- Test for impairment in line with Impairment of Assets only if impairment indicators exist.
- Negative goodwill is firstly allocated against the fair value of the non-monetary assets in period in which non-monetary assets recovered and the balance against the period in which the entity is likely to benefit;
- Less onerous disclosures under Business Combinations and Goodwill;
- Recognise deferred tax on difference between fair values on acquisition and tax base;
- Likely to be more amortisation in the profit and loss account due to more intangibles recognised as criteria not as strict as well as a rebuttable assumption where a useful life cannot be reliably measured of 10 years;
- Direct transaction costs capitalised; and
- Merger accounting permitted for group reconstructions where the ultimate equity holders remain the same. Under this method fair valuing is not required.
See also: The IFRS Foundation