a valid expectation in those affected that the restructuring will be carried out by publicly announcing the details of the plan or has begun implementing the plan on or before the acquisition date. If the acquiree’s restructuring plan is conditional on it being acquired, the provision does not Tepresent a present obligation, nor is it a contingent liability, at acquisition date. Restructuring provisions that do not meet the definition of a liability at the acquisition date are recognized as post- combination expenses of the combined entity when the costs are incurred. | Illustration: Restructuring provisions On January 1, 20x1, ABC Co. acquired all the assets and liabilities of XYZ, Inc. for P1,000,000. On this date, XYZ’s assets and liabilities have fair values of P1,600,000 and P900,000, respectively. ABC Co. has estimated restructuring provisions of 200,000 representing costs of exiting the activity of XYZ, including costs of terminating and relocating the employees of XYZ. —7~ Requirement: Compute for the goodwill. Solution: Consideration transferred 1,000,000 Non-controlling interest in the acquiree S Previously held equity interest in the acquinee Total 1,000,000 Fair value of net identifiable assets acquired (1.6M - 9M) (700,000) Goodwill 300,000 The restructuring provisions are simply ignored in the computation of goodwill. These are considered only when they qualify for recognition under PAS 37 as at the acquisition date (see discussion above). Restructuring provisions that do not meet the recognition criteria as at the acquisition date are recognized as | post-combination expenses (ie, expenses after the business ombination).Chapter 1 ee Specific recognition principles ‘ | PERS 3 provides the following specific recognition principles: 1. Operating leases Acquiree is the lessee General rule: it Ih. The acquirer does not recognize any assets or liabilities related t, an operating lease in which the acquiree is the lessee. Exception: The acquirer determines whether the terms of each operating lease in which the acquiree is the lessee are favorable or unfavorable. If the terms of an operating lease relative to market terms is: 1. Favorable — the acquirer recognizes an intangible asset. 2. Unfavorable — the acquirer recognizes a liability. For example, an identifiable asset (favorable) may aris when market participants are willing to pay rent at above-marke rates because the leased property is located at a prime spot. Acquire is the lessor If the acquiree is the lessor, the acquirer does not recognize an) separate intangible asset or liability regardless of whether thi terms of the operating lease are favorable or unfavorable wh compared with market terms. a Illustration: Specific recognition princi Fact pattern On January 1, 20x1, ABC Co. acquired all the a asset es of XYZ, Ine. for 1,000,000. On this date, ona Habilite liaites have fir values of 1,600,000 and Poon oon gen ,000, respectively iples - Operating leasesBusiness Combinations (Part 1) | Case #1: Acquiree is the lessee — terms are favorable | ABC is renting out a buildin, Requirement: Compute for the goodwill, Solution: Consideration transferred 18 to XYZ, Inc, under an operating lease. The terms of the lease compared with market terms are favorable. The fair value of the differential is 20,000, 1,000,000 Non-controlling interest in the acquire - Previously held equity interest in the acquiree : Total 7,000,000 Fair value of net identifiable assets acquired (720,000) Goodwill 280,000 ‘Fair value of identifiable assets acquired, including intangible asset on the operating lease with favorable 1,620,000 terms (P1.6M + P20K) Fair value of liabilities assumed (900,000) Fair value of net identifiable assets acquired Case #2: Acquiree is the lessee - terms are unfavorable unfavorable. The fair value of the differential is P20,000, ABC is renting out a patent to XYZ, Inc. under an operating lease, The terms of the lease compared with market terms are 720,000 —— Requirement: Compute for the goodwill Solution: Consideration transferred 1,000,000 Non-controlling interest in the acquiree - Previously held equity interest in the acquiree : Total 1,000,000 Fair value of net identifiable assets acquired © (680,000) Goodwill 320,000Steers ® Fair value of identifiable assets acquired F f f 1,600 09, Fair value of liabilities assumed, including liability on the operating lease with unfavorable terms (P900K + P20K) (920,009, Fair value of net identifiable assets acquired S807 —e Case #3: Acquiree is the lessor ABC is renting a building from XYZ, Inc. under an operating lease The terms of the operating lease compared with market terms are favorable. The fair value of the differential is P20,000. Requirement: Compute for the goodwill. Solution: Consideration transferred 1,000,000 Non-controlling interest in the acquiree a Previously held equity interest in the acquiree = Total 1,000,001 Fair value of net identifiable assets acquired (1.6M -.9M) (700,000) Goodwill 3 No intangible asset or liability is recognized, regardless of terms of the operating lease, because the acquire is the lessor. ¥ Note that the basis for determining which party is the lessee or the lessor in an operating lease is the acquire. If the acquire is the lessee, an asset or liability i: recognized depending on the terms of the lease. If the acquitee is the lessor, n0 asset or liability is recognized. ee 2. Intangible assets Identifiable intangible assets acquired in a business combination are recognized separately from goodwill. An intangible asset is identifiable if it is either (a) separable or (b) arises from contractual 0! other legal rights.Business Combinations (Part 1) 29 Business Combinations Fat? ————$__—_______$___— Separability criterion ‘An intangible asset is separable if it can be separated from the acquiree and sold, transferred, licensed, rented or exchanged, either individually or together with a related contract, identifiable asset or liability. An intangible asset is also separable if there is evidence of exchange transactions for that type of asset or similar asset, even if those transactions are infrequent and the acquirer is not involved in them. An intangible asset is separable even if the acquirer does not intend to sell, license or otherwise exchange it. For example, the fact that customer and subscriber lists are frequently licensed makes such lists separable. However, such lists would not be separable if the terms of confidentiality or other agreements prohibit the entity from selling, leasing or otherwise exchanging information about its customers. Contractual-legal criterion An intangible asset that is not separable is nonetheless identifiable if it arises from contractual or other legal rights. Example: Entity A acquires Entity B, an owner of a nuclear power plant. Entity A obtains Entity B’s license to operate the nuclear power plant. However, the terms of the license prohibit Entity A from selling or transferring the license to another party. Analysis: The license is an identifiable intangible asset because, although it is not separable, it meets the contractual-legal criterion. Illustration 1: Intangible assets ABC Co. acquired all the assets and liabilities of XYZ, Inc. for P1,500,000. Relevant information follows:a Carrying amounts Fairvalues Other assets 1,600,000 1,480,000 ‘Computer software 100,000 3 Patent - 50, Goodwill 100,000 20,000 Assets 7,800,000, 1,550,000 Liabilities 400,000. 450,000 Additional information: considered obsolete. The computer software is c The patent has a remaining remaining legal life of 12 years. XYZ has research and development (R&D) projects with fair ‘ralue of 50,000. However, XYZ, Inc. recognized the R&D costs as expenses when they were incurred. seful life of 10 years and a Requirement: Compute for the goodwill. Solution: Consideration transferred 1,500,000 Non-controlling interest in the acquiree - Previously held equity interest in the acquire “ Total TB= TTD or FI>TI; TTD x tax rate = DTL (Refer to Intermediate Accounting Part 2 for detailed discussion on deferred taxes.)36 Chapter > The deferred taxes are computed as follows: Fair Previous values Carrying (CAfor amounts TTD (1p, financial (TB for Se nting)_texation) Cash 10,000 10,000. Receivables — net 120,000 170,000 (50,000) Inventory 350,000 520,000 (170,009) Building ~ net 1,100,000 1,000,000 100,009 Patent 30,000 > 30,00 Payables 400,000 400,000 - Contingent liability 20,000 = (20,000) Taxable temporary difference (ITD) (100K +30k) - 130,000 Multiply by: Tax rate 30% Deferred tax liability 8,000 Deductible temporary difference (DTD) (50K +170K+20K) 240,000 Multiply by: Tax rate 30% Deferred tax asset 72,000 Consideration transferred 1,500,000 Non-controlling interest in the acquire a Previously held equity interest in the acquiree Total 1,500,000 Fair value of net identifiable assets acquired (1,223,000) Goodwill 27,000 Fair value of identifiable assets acquired excluding recorded goodwill (1.6M~20K goodwill + 30K unrecorded 1,682,000 patent + 72K deferred tax asset) Fair value of liabilities assumed (400K +20K contingent liability + 39K deferred tax liability) (459,000) Fair value of net identifiable assets acquired 1,223,000 223,Business Combinations (Part D but rather ignored when ap lying the acquisition method. Mlustration 1: Consideration transferred On January 1, 20x1, ABC Co, of XYZ, Inc, The as and P900,000, respectively. As consideration: . ABC agrees to pay P1,000,000 cash, of which half is payable on January 1, 20x1 and the other half on De - acquired all the assets and liabilities i it values of P1,600,000 former owners of XYZ, After the combination, ABC will continue the activities of XYZ. ABC agrees to provide a patented technology with carrying amount of P60,000 and fair value of P80,000 for use in XYZ's activities, Requirement; Compute for the goodwill. Solution: Consideration transferred 4.110461 Non-controlling interest in the acquiree “ e Previously held equity interest in the acquire : 1,110,461 Total “110; ___ Fair value of net identifiable assets acquired (16M 9m) (700,000) 410,461 ilBo Chapter 1 ® Cash payment (PIM x 50%) 500,00, PV of future cash payment (PIM x 50% x PV of P1.@10%, n-5) 310,46 Land transferred to f f XYZ (at fair value) 300, n 0 former owners o — 20000) Fair value of consideration transferred 1,110,467 & Notes: © The land is remeasured to acquisition-date fair value before jy is transferred. The 200,000 adjustment is recognized as impairment loss. The patented technology is not included in the consideration transferred because it remains within the combined entity The patented technology continues to be measured at carrying amount. Illustration 2: Consideration transferred ~ Dividends on On January 1, 20x1, ABC Co. acquired all the assets and liabilities of XYZ, Inc. for 1,000,000. The assets and liabilities have fair values of P1,600,000 and P900,000, respectively. XYZ’s liabilities include P100,000 cash dividends declared on December 28, 200, to shareholders of record on January 15, 20x1, and payable on January 31, 20x1. Requirement: Compute for the goodwill. Solution: Consideration transferred (1M -100K dividends on) 900,000 Non-controlling interest in the acquire~ 7 Previously held equity interest in the acquiree - Total 900,000 FY of net identifiable assets acquired (1.4M-oM) 0 = 700,000) Goodwill eae — For purposes of computing the . 4 Soodwill, the »100,000 payment is excluded from the consideration transf e aanBusir nbinations (Part 1) this is not a payment for the business combination, but rather for the purchased dividends. Journal entries: Jan. | Identifiable assets acquired 1,600,000 L_ | Goodwill 200,000 20x1 Liabilities assumed (incldg. dividends) 900,000 Cash ; 900,000 Jan. | Dividends payable 100,000 1 Cash. 100,000 20x to record the extiagwishrnent of te juiced “ dividends Exceptions to the measurement principle a. Reacquired rights Reacquired rights are measured based on the remaining term of the related contract. Reacquired rights are discussed in the next chapter, b. Share-based payment transactions Liabilities and equity instruments related to the acquiree’s share- based payment transactions are accounted for using PERS 2 Share- based Payment. (Share-based payment transactions are discussed in detail in Intermediate Accounting Part 2.) c. Assets held for sale ‘A non-current asset (or disposal group) that is classified as ‘held for sale’ at the acquisition date is measured at fair value less costs to sell in accordance with PFRS 5 Non-current Assets Held for Sale ‘and Discontinued Operations, rather than at fair value under PERS 3. Illustration: Held for sale assets ABC Co. acquired all the assets and liabilities of XYZ, Inc. for 1,000,000. The assets and liabilities have fair values of P1,600,000 and P900,000, respectively.Chapter 1 4 Or a ,e itional information: / en saat include a factory plant that A eels to sel, immediately. The criteria for “held for sale” classifica under PFRS 5 are met. Costs to sell the factory plant ate 20,000. * Not included in XYZ’s assets is a research and developmen, project that ABC does not intend to use. The R&D’s fair Value is P50,000. | Also not included in the assets is a customer list with an estimated value of P10,000. However, confidentiality prohibits Entity A from selling, leasing or otherwise exchanging information about the customers in the list. Requirement: Compute for the goodwill. Solution: Consideration transferred 1,000,009 Non-controlling interest in the acquiree - Previously held equity interest in the acquiree - Total 1,000,000 Fair value of net identifiable assets acquired (16M ~20K costs to sell + 50K R&D - 9M labilit (730,000) Goodwill 270,000 —_= © Notes: “The “held for sale” factory plant is measured at fair value less costs to sell. Because the fair value is already included in the total, the costs to sell are simply deducted, © An identifiable asset acquired (eg, the R&D) is recognized regardless of whether the acquirer intends to use it. The customer list is not recognized because it is not identifiable. See previous discussion,£1 General recognition and measurement principles: The net identifiable assets acquired in a business combination are recognized when they. meet the recognition criteria under the Conceptual Framework and are measured at acquisition date fair values in accordance with PERS 3, Exception to the Exceptions to both | Exceptions to the recognition the recognition and measurement principle measurement principle principles 1. Contingent 1. Deferred taxes~ [1 Reacquired liabilities - (PAS 12 is applied). tights — measured recognized when © they preset a | Employee benefits eee of resent obligation ~ (PAS 19 is applied) the related and their far valu feet . sadeenrtainn”’ | 3° Indemnification wat even ifthe outflow assets ~ recognized | 2. Share-based is improbable. and measured on the payment — (PFRS same basis as the 2 is applied) indemnified item. 3. “Held for sale” assets ~ measured at fir value less costs to sell Chapter 1: Summar * A business combination is one in which an acquirer obtains control of one or more businesses. Control is presumed to exist when an investor holds more than 50% interest in the acquiree’s voting rights. Business combinations are accounted for using the acquisition method. This method requires the following: a. Identifying the acquirer; b. Determining the acquisition date; © Recognizing and measuring goodwill (or negative goodwill) - this requires accounting forthe following: i. Consideration transferred, ii___Non-controlling interest,Chapter 1 ty interest, and iii iously held equi a a senda assets acquired and liabilities assumed, Iv. i i trol af irer (parent) is the entity that obtains ton ° ter th 3 ee een The controlled entity is the acquiy, usiness 5 subsidiary). . . / . oe seg date is the date on which the acquirer obtain, i he closing date). control of the acquiree (e.g. t : * Goodwill is computed using the following formula: xx Consideration transferred : Non-controlling interest in the acquiree , xx Previously held equity interest in the acquiree Xx Total = Less: Fair value of net identifiable assets acquired _ (xx) Goodwill / (Gain on a bargain purchase) xx * The consideration transferred is measured at fair value. * NCI is measured either at fair value or the NCTs proportionate share in the acquiree’s net identifiable assets. A “gain on a bargain purchase” is recognized in profit or loss in the year of acquisition only after reassessment of the asset acquired and liabilities assumed in the business combination. * Only identifiable assets acquired are recognized. Unidentifiable assets are not recognized. © Acquisition-related costs are expensed, except costs of issuing equity and debt instruments, Acquisition-related costs do no! affect the measurement of goodwill. . Restructuring Provisions ai espe econ fsa ity when the costs are incurred. re generally not recognized as partess Combinations (Part 1) Relevant provisions of the PFRS for SMEs Section 19 Business Combinations and Goodwill Section 19 of the PFRS for SMEs applies to all business combinations, including the accounting for goodwill. It does not apply to the following: a. Combinations of businesses under common control (i.e., entities having the same parent). b. The formation of a joint venture. Acquisition of a group of assets that do not constitute a business. Business combin Business combination is “the bringing together of separate entities or businesses into one reporting entity.” (vrs for saes) As a result, one entity (the acquirer) obtains control over the other business (the acquiree). A business combination may involve the purchase, by the acquirer, of some or all of the acquiree’s (a) assets and liabilities or (b) equity, in exchange for cash, non-cash assets, or the acquirer's equity instruments. Accounting Business combinations are accounted for using the purchase method. This method involves the following: a. Identifying the acquirer b. Measuring the cost of the business combination. ¢, Allocating the cost of the business combination to the assets acquired and liabilities assumed. The purchase method is applied as at the acquisition date, which is the date on which the acquirer obtains control over the acquire.nN __ i Identifying the acquire sm all business snatione uirer is identified in bu: oe omb) a“ we a sea is the one that obtains control over the other combi my a in eae trol is “the power to govern the financial an 7 ity or business so as to obtain benef, operating policies of an entity or ym its activities.” (PFRS for SMES) oe ; " When the acquirer is not clearly identifiable, the acquire, is usually: a a. the business with the greater fair value; b. the transferor of cash or other assets; on c. the business whose management dominates the managemen; of the combined entity. Cost of a business combination The cost of a business combination is the sum of: a. The acquisition-date fair values of the assets given, liabilities incurred, and equity instruments issued by the acquirer in exchange for control over the acquiree; and Any costs directly attributable to the business combination. Adjustments to the cost of a business combination If the business combination a consideration, such is included in the cost of the business combination at the acquisition date if it is robabl measured reliably, F See If the contingent consid acquisition date but subsequen measurable, the additional adjustment to the cost of the co eration is not recognized at the tly becomes probable consideration ig tre; ; ated as mbination, el Allocating the cost of a business combination At the acquisition date, the acquirer allocator business combination by "ecognizing the wot®S {Re cost of the assets and liabilities, including contingent jee 8 identifiable values (except for deferred taxes ang employee etek oe fair Mf Which areCombinations (Part 1) 2 recognized and measured using the other sections of the PFRS for SMEs). The difference between (a) the cost of the business combination and (b) the acquirer’s interest in the fair value of the acquiree’s net identifiable assets represents goodwill or negative goodwill Recognition and measurement The acquirer recognizes the acquiree’s identifiable assets and liabilities at the acquisition date if they satisfy the following criteria: a. Assets other than intangible assets ~ it is probable that any associated future economic benefits will flow to the acquirer, and its fair value can be measured reliably. b. Liabilities other than contingent liabilities - it is probable that an outflow of resources will be required to settle the obligation, and its fair value can be measured reliably. c. Intangible assets and Contingent liabilities — its fair value can be measured reliably. Restructuring and Future losses Restructuring provisions (e.g, liabilities for terminating or reducing the acquiree’s activities) are recognized only if the acquiree has an existing liability for the restructuring as at the acquisition date. : The acquirer does not recognize liabilities for future losses expected to result from the business combination. Provisional amounts Provisional amounts may be recognized if the initial accounting for a business combination is incomplete by the end of the reporting period in which the business combination occurs. Changes to the provisional amounts within 12 months from the acquisition date are accounted for retrospectively. Changes beyond the 12-month period are treated as corrections of errors.Chapter 1 Goodwill and Negative goodwill Goodwill is recognized as an asset and subsequently amortizy over a useful life determined based on management’s bey estimate not exceeding 10 years. . “ne For purposes of impairment testing, goodwill is allocate to individual cash generating units (CGU). The seus ae then tested for impairment and any impairment loss is charged first the CGU’s allocated goodwill. Any excess is charged to the othe, assets of the CGU. pai " Negative gooduill is recognized as gain in profit or loss in the year of business combination, but only after reassessments of the assets and liabilities acquired and the cost of the business combination. ©) Notable differences between the full PFRSs and the PERS for SMEs: Full PERSs PERS for SMEs 1._Accounting method and computation of goodwill PERS 3 requires the use of the __| PFRS for SMEs requires the use of acquisition method. the purchase method Goodwill is computed as follows: | Goodwill is computed as follows: Consideration transferred vx | Fair value of assets given, liabilities NCI xx | incurred, and equity instruments x Previously held equity interest 2 | Acquisition-related costs 2 ad = Cost of business combination x Less: Fai value ofnetientiable 4) | Lass: Acquirers interest in the fae assets acquired value of the acquiree’s net ‘Goodwill (Negative goodwill) 3 _ | identifiable assets (= ‘Goodwill (Negative goodwill) = > — Acquisition-related costs are expensed, except costs of issuing equity or debt securities. > Acquisition-related costs are included in the cost of the business combination, except Costs of issuing equity or debt securities. BpBusiness Combinations (Part 1) Non-controlling interests 47 NClis included in the measurement of goodwill. NCI is measured either at: a. fair value; or b, the NCI's proportionate NCI's proportionate share in the share in the acquiree’s net assets. 3. NCL is not included in the measurement of goodwill. NCI in the consolidated financial ‘statements is measured at the Operating lease ~ Reacquired right If the terms of an operating lease relative to market terms 1. Favorable ~ the acquirer recognizes an intangible asset. Unfavorable - the acquirer recognizes a liability. No equivalent provision under PERS for SMEs. 4. Intangible assets acquired in a business combination Recognized if the intangible asset meets either the (a) separability criterion or the (b) contractual-legal criterion, Recognized if its fair value can be measured reliably, 5._ Contingent liabilities Recognized if itis a present obligation and its fair value can be measured reliably. Recognized if its fair value can be measured reliably.