lecture 6 business combination.pptx
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BUSINESS COMBINATIONS Conceptually, a business combination occurs when businesses
combine their operations; this can happen in two basic ways:
As an acquisition or purchase of one business by another, where
control is acquired
As a uniting of interest, where two existing businesses join together
to carry out business as one economic entity
Current related Bangladesh Accounting Standard (BFRS 3,
BAS 27, & BAS 28) does not differentiate: all business
combinations by corporations are accounted for as
purchases
BUSINESS COMBINATIONS
A business combination is a transaction or other event in which a
reporting entity (the acquirer) obtains control of one or more
businesses (the acquiree) IFRS 3.
According to the Financial Accounting Standards Board (FASB), a
business combination is an event or a procedure, in which, an entity
acquires net assets that constitute a business or acquires equity
interests of one or more other entities and obtains control over that
entity or entities.
Commonly, business combinations are often referred to as mergers
and acquisitions.
Significance of Size of Investment
The investor can own any amount of shares in the investee, and that
influence varies directly with the amount of shares owned.
When control is acquired, the investor and investee are referred to as
parent and subsidiary. Rather than report using the cost or equity
method, the parent will prepare consolidated financial statements
and combine the accounts of the subsidiary with those of the parent in
the published financial statements.
Control is determined by the facts of the relationship, not by the
exact percentage shareholding
This concept may be referred to as de facto control
Significance of Size of Investment
Investor Ownershipof Investee Shares Outstanding
0%
~20%
~50%
100%
Cost Method
Equity method
Consolidation accounting
Business Combination Range
Control is presumed when the ownership percentage is 50% or more; exact
determination is based on the facts of the relationship between shareholders and the
company
DEFINITIONS
Combined Enterprise: The accounting entity that results from a
business combination.
Constituent Companies: The business enterprises that enter into
a business combination.
Combinor: A constituent company entering into a purchase-type
business combination whose owners as a group end up with
control of the ownership interests in the combined enterprises.
Combinee: A constituent company other than the combinor in a
business combination.
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Classes of Business Combinations
F rien d ly Takeover H os tile Takeover
B u s in ess C om b in a tion s
Classes of Business Combinations
Friendly Takeovers:
The Board of Directors of all constituent companies amicably
determine the terms of the business combination.
The proposal is submitted to share holders of all constituent
companies for approval.
Hostile Takeovers:
In this type of takeovers the target Combinee typically resists
the proposed business combination.
The target Combinee uses one or more of the several defensive
tactics.
TYPES OF BUSINESS COMBINATION
Horizontal: A combination involving enterprises
in the same industry.
Vertical: A Combination involving an enterprise
and its customers or suppliers.
Conglomerate: A combination between
enterprises in unrelated industries or markets.
METHODS OF ARRANGING BUSINESS COMBINATIONS
Statutory Merger: It is executed under provisions of
applicable state laws
Statutory Consolidation: This also is consummated in
accordance with applicable state laws
METHODS OF ARRANGING BUSINESS COMBINATIONS
Acquisition of Common Stock: One corporation (the investor)
may issue preferred or common stock, cash, debt or a combination
thereof to acquire from present stockholders a controlling interest
in the voting common stock of another corporation (the investee).
Acquisition of Assets: A business enterprise may acquire from
another enterprise all or most of the gross assets or net assets of
the other enterprise for cash, debt, preferred or common stock, or a
combination thereof.
Establishing the Price of a Business Combination
This is a very important early step in planning a business
combination.
The price for a business combination consummated for
cash or debt generally is expressed in terms of the total
dollar amount of the consideration issued.
When common stock is issued by the combinor in a business
combination, the price is expressed as a ratio of the number
of shares of the combinor’s common stock to be exchanged
for each share of the combinee’s common stock.
Establishing the Price of a Business Combination
The amount of cash or debt securities, or the
number of shares of common or preferred stock,
to be issued in a business combination generally is
determined by variations of two methods:
1. Capitalization of expected average annual earnings of
the combinee at a desired rate of return.
2. Determination of current fair value of the combinee’s
net assets (including goodwill).
Purchase Method of Accounting for Business Combination
Business combinations in which a company
acquires control of another company can be
considered acquisitions in the sense that they
involve a buyer and a seller with the buyer
paying cash or other consideration either for
shares representing voting control or for net
assets.
Purchase Method of Accounting for Business Combination
Under the purchase method, the acquiring
company's interest in assets acquired and liabilities
assumed is accounted for in the acquiring
company's financial statements at the cost (Fair
Market Value) to the acquiring company.
The reported income of the acquiring company
includes the results of operations of the acquired
company from the date of acquisition only
Business Combination – Pooling of Interest
Business combinations in which the ownership
interests of two or more companies are joined
together through an exchange of voting shares and
in which none of the parties involved can be
identified as an acquirer can be considered pooling
of interests in the sense that the shareholders
combine their resources to carry on in combination
the previous businesses.
Cost of Acquisition – Cost of Combinee
The cost is determined by the fair value of the
consideration given or the acquirer's share of the
fair value of the net assets or equity interests
acquired, whichever is more reliably measurable.
Cost of Acquisition – Cost of Combinee
The Cost of Acquisition is allocated as follows:
all assets acquired and liabilities assumed are assigned
a portion of the total cost of the purchase based on
their fair values at acquisition;
allocations may be made to items previously unrecorded
by the subsidiary
the excess over the net of the amounts assigned is
recognized as an asset, goodwill.
Cost of Acquisition – Cost of Combinee
The interest of any non-controlling shareholders (Minority
Holders)in the identifiable assets acquired and liabilities
assumed should be based on their carrying values in the
accounting records of the company acquired.
This interest should be included in the amount disclosed as non-
controlling interest on the balance sheet (Minority interest is
reported at book value)
IFRS 3 – Minority Interest Fair Value or on the basis of
Carrying Amount
Expenses Related to Acquisition
Expenses directly incurred in effecting a business combination
accounted for as a purchase should be included as part of the
cost of the purchase.
Such expenses will therefore be included in the amounts to be
assigned to the individual assets acquired and liabilities assumed.
Where shares are issued to effect the acquisition, the costs of
registering and issuing such shares would be treated as a capital
transaction.
GOODWILL
IFRS 3
Goodwill (an asset) is measured initially indirectly as the difference
between the consideration transferred excluding transaction costs in
exchange for the acquiree’s identifiable assets, liabilities and
contingent liabilities (measured as set out above)
• If the value of acquired identifiable assets and liabilities exceeds
the consideration transferred, the acquirer immediately
recognizes a gain (bargain purchase)
• Goodwill is not amortized, but is subject to an impairment test.
PRINCIPLE
• Consolidated financial statements present the parent and all its
subsidiaries as financial statements of a single economic
entity
1. Uniform accounting policies
2. Same reporting periods
3. Eliminate intragroup transactions and balances
4. Non-controlling interest (the equity in a subsidiary that is
not attributable, directly or indirectly, to the parent) is
presented within equity, separately from the parent
shareholders’ equity.
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