Fair value adjustment

IFRS 3 requires that goodwill on consolidation should be based on the fair values of the net
assets of the subsidiary company on the date of acquisition.

This means that the subsidiary company should revalue its assets on the date of acquisition.But
unfortunately no revaluation may have been done.  For the purpose of consolidation, it is
important to determine what should have been the revaluation gain or loss if an asset is revalued.
In most cases we revalue non current assets such as Property, plan nd equipment, intangible
assets and long term investments. If there is a revaluation gain on any of the assets then the
following entry will be made:

a) To record the revaluation gain

DR.  Group PPE/intangible assets/Longterm investments (with the full revaluation gain)
         CR.  Cost of control (with holding company share of revaluation gain)
         CR.   M.I (with M.I’s share of the revaluation gain)

For assets that are meant to be depreciated or amortized, (PPE and Intangibles), the total
depreciation or amortization that should be charged to date should be estimated and provided
for .

b) Compute the additional depreciation that should have been provided to date had the
subsidiaries assets been revalued and record the amount as follows;

DR.    Group retained profits (with holding company share of additional depreciation)
DR.     M.I (with M.I’s share of additional depreciation)
            CR. Group PPE/Intangible assets (with the full additional depreciation)

1
PRE-ACQUISITION DIVIDEND ADJUSTMENT

by Tarun Masani ⋅ Leave a Comment

Problem
H Ltd had acquired 75% of the equity share capital of S Ltd on 1-7-2008. It had received
Rs.12000 as dividend for the year 2007-08. S Ltd had not provided for the dividend when
the accounts for the year 2007-08 were prepared. Find out the capital & revenue profit if
the profit & loss account balances were Rs 42000 & Rs 96000 respectively at the end of
2007-08 & 2008-09.

Solution:-
Profit and Loss Account = 96000

Op Balance Rs. 26000

= [42000- (12000*75%)]

= Capital profit

Total Capital Profit = Rs. 43500

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(17500 26000)

Current Year Profit = Rs.70000

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Capital Profit = 17500(70000*3/12)

= Revenue Profit = 52500 (70000*9/12)

Posted in: Consolidation, Dividend, Problems

Question
Two years ago, Weller paid $90,000 for a controlling interest of 80% in the equity of Foxton
when the retained earnings of Foxton were $25,000. An extract of the statement of financial
positions at the reporting date shows;

Weller Foxton

$ $

Ordinary sharews ($1) 25,000 15,000

Retained earnings 100,000 40,000

125,000 55,000

 The fair value of the NCI of Foxton at the date of acquisition was $20,000.
 It is group policy to measure the NCI at acquisition at fair value.
 For consolidation purposes an upwards fair value adjustment of $25,000 was
made on certain items of Foxton’s property plant and equipment which at the
date of acquisition had a remaining life of five years.

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  By the reporting date goodwill has been impaired by $1,000.
Required
 a) Calculate the goodwill at the reporting date.
 b) Prepare the equity section of the Weller group statement of financial
position.
Now in approaching such a question there are five regular workings that have to be
processed. It is first necessary to prepare a group structure to ensure that we have
noted the parent’s and the NCI’s interest in the subsidiary’s profits and noted how
long the subsidiary has been a member of the group.
W1 Group structure
Weller (parent)

Two years ago 80% / 20% NCI

Foxton (subsidiary)

Our next working is to establish the fair value of the net assets of the subsidiary both
at the date of acquisition and at the reporting date. The net assets of the subsidiary
are represented by its equity. Note that the subsidiary’s net assets at the date of
acquisition need a fair value adjustment on its property plant and equipment. This
adjustment is still necessary at the reporting date as the asset is still held, in fact, at
the reporting date it also creates the additional adjustment of more depreciation.
W2 Net assets
At acquisition At reporting date

$ $

Ordinary shares 15,000 15,000

Retained earnings 25,000 40,000

Fair value adjustments on PPE 25,000 25,000

Less depreciation(1/5 x 25,000 X 2 years) (10,000)

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Total 65,000 70,000

From the net asset working we can see that the rise in the net assets since the
subsidiary was acquired is $5,000. This is known as the post-acquisition profits of
the subsidiary and is allocated 80% to the parent w5 and 20% to the NCI w4.
Further we can note that the net assets of the subsidiary at acquisition is $65,000, a
key figure for the calculation of goodwill which is our next working. The goodwill
arising on consolidation is subject to an annual impairment review. Where the NCI at
acquisition has been measured at fair value then the goodwill is said to be the full
goodwill of the group and as such any impairment loss has be allocated between the
parent w5 and the NCI w4 in the normal proportions that they share profits and
losses.
W3 Goodwill
$

FV of Parent’s investment 90,000

FV of NCI 20,000

FV of Net assets (65,000)

Goodwill at acquisition – full 45,000

Less impairment loss (80% / 20%) (1,000)

Goodwill at the reporting date 44,000

Next we determine the NCI at the reporting date. NCI is part of equity (the
ownership) and so the balance at the date of acquisition will increase with its share
of any profits and decrease with any share of losses that we have seen above.
W4 NCI
$

Opening balance 20,000

Plus NCI% of post -acquisition profit 1,000

5
Plus NCI% of post -acquisition profit (20% x 5000) 1,000

Less NCI% impairment loss on full goodwill (20% x 1,000) (200)

20,800

Our final working is the retained earnings of the group.

W5 Retained earnings
$

Parent 100,000

Plus parent’s % of post acquisition profit (80% x 5,000) 4,000

Less parent’s % of impairment loss on full goodwill (80% x 1,000) (800)

103,200

To recap, in answer to the requirements

 a) Goodwill at the reporting date; per w3 above , $44,000
 b) Equity section of the group statement of financial position
$

Ordinary shares (parent only) 25,000

Retained earnings w5 103,200

NCI w4 20,800

149,000

The second edition of Tom’s book – A Student’s Guide to Group Accounts is now
available from Kaplan Publishing. Use the discount code kmb9dv8-s for £5 off and
free delivery!
Main image courtesy of Images_of_Money via Flickr.

6
Written by Tom Clendon
Tom teaches Financial Accounting at Kaplan London. He won PQ magazine’s Tutor of the Year
award in 2009. Tom is a published author, most recently writing a Student’s Guide to Group
Accounts, now in its second edition, which he describes as a ‘creative and satisfying’
experience.
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One comment
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Marsha Higgins
April 11, 2013 - 2:22 am | Permalink

great teacher Tom…Aced my paper 3.6 back in the days…keep doing what u do best
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The general approach to determining the cost of a purchase acquisition

follows three general principles for accounting for acquisitions of assets:

1. An asset acquired in exchange for cash or other assets is recorded at cost

(i.e., at the amount of cash disbursed or the fair value of other assets
distributed).
2. An asset acquired by incurring liabilities is recorded at cost (i.e., at the
present value of the amounts to be paid).

7
 3. An asset acquired by issuing shares of stock of the acquiring corporation is
recorded at the fair value of the asset (i.e., shares of stock issued are
recorded at the fair value of the consideration received for stock). In cases
where stock has a quoted price, one would, in fact, look first to the value of
the stock for valuing the stock issued and assets received.

Pre-acquisition and post-acquisition reserves

When preparing consolidated financial statements it is important to
distinguish between pre-acquisition reserves and post-acquisition
reserves:

 Pre-acquisition reserves are retained profits and other reserves that exist in a
subsidiary’s statement of financial position at the date of acquisition.

 Pre-acquisition reserves are capitalised at the date of acquisition by including in

the goodwill calculation. They must not be included in the consolidated income
statement or consolidated statement of financial position.

Profits/losses (including unrealised gains and losses) made after acquisition that are
shown in the subsidiary reserves can be included in the consolidated statement of
comprehensive income and in reserves in the consolidated statement of financial
position.