PrE7 MODULE 1

COLLEGE OF COMMERCE
BACHELOR OF SCIENCE IN ACCOUNTANCY
MODULE 1 PACKET
PrE 7 – ACCOUNTING FOR BUSINESS COMBINATIONS
MODULE 1 BUSINESS COMBINATIONS:
Welcome to Module 1.
In this module, we will discuss recognition and measurement in business combinations. At the end of this
module, you will be answering multiple choice questions and straight problems.
CONSULTATION HOURS:
Virtual time: During your class schedule
Phone or Messenger: Weekdays from 1pm to 130pm
MODULE 1 LEARNING OBJECTIVES:

By the end of this module, the students will be able to:
1. Discuss business combination
2. Compare various forms of business combination
3. Compute the goodwill or gain from business combination
COURSE CONTENT FOR MODULE 1:
ACTIVITY DESCRIPTION TIME TO

COMPLETE
Assigned Reading Business Combination 60 minutes
Lecture discussion Recognition and Measurement 90 minutes
Activity Problem Solving 90 minutes
Quiz Summative quiz for module 1 (to be announced) 60 minutes
2020-2021 Module Packets for PrE 7 (Accounting for Business Combinations) | College of Commerce |
University of San Agustin, Iloilo City, 5000, Philippines Page 1 of 17
COLLEGE OF COMMERCE
LECTURE DISCUSSIONS
Definition of Terms
1. Acquiree - The business or businesses that the acquirer obtains control of in a business combination
2. Acquirer - The entity that obtains control of the acquiree
3. Acquisition date - The date on which the acquirer obtains control of the acquiree.
4. Acquisition-related costs – Those incurred by the acquirer to effect a business combination: direct
costs (advisory, legal, accounting and consulting fees), indirect costs and costs of registering and
issuing securities.
5. Business combination - A transaction or other event in which an acquirer obtains control of one or
more businesses. Transactions sometimes referred to as “true mergers” or “mergers of equals” are
also business combinations as that term is used in this IFRS.
6. Fair value - is the price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date
7. Non-controlling interest - The equity in a subsidiary not attributable, directly or indirectly, to a parent.
MODES OF BUSINESS COMBINATION:
1. Acquisition of Net Assets – the acquirer must acquire 100% of the net assets of the acquiree
a. Statutory Merger is where an acquirer wholly purchases a company. As a result, the acquiring
company will remain as a legal entity while the acquired company will be totally dissolved. This
is a full acquisition.
b. Consolidation is where a new entity is created to acquire the net assets of the combining companies
which are dissolved as a result of the full acquisition.
2. Stock Acquisition. This mode of business combination is where the acquirer purchases certain shares
of a company for the purpose of obtaining control. According to PFRS 10, an investor controls an
investee when it is exposed, or has rights, to variable returns from its involvement with the investee
and has the ability to affect those returns through its power over the investee.
Example: A Company purchases all ordinary shares of B Company. A Co. becomes the
parent and B Co. is its fully-owned subsidiary. But if A Co. purchases 80% of the ordinary shares
of B Co., A obtains control of B. In this case, there is a 20% non-controlling interest.
Combining Companies Surviving Legal Form Achieved through

Entity/ies
A (acquirer) and B (acquiree) A Statutory Merger Purchase of net assets
A and B C Consolidation Purchase of net assets
A and B A and B Stock acquisition Purchase of voting stocks
COLLEGE OF COMMERCE
1.1 ACCOUNTING METHOD FOR BUSINESS COMBINATION
PFRS 3 defines business as an integrated set of activities and assets that is capable of being conducted and
managed for the purpose of providing goods and services to customers, generating investment income or
generating other income from ordinary activities.
A business combination involves the acquisition of business with 3 elements:

a. Inputs – an economic resource (non-current assets, intellectual property) that has an ability to
contribute to the creation of outputs.
b. Process – a system, standard, protocol, convention or rule that when applied to inputs creates outputs
c. Outputs – the result of inputs and processes applied
In applying the acquisition method, the following steps are to be followed:

a. Identify the acquirer
b. Determine the acquisition date
c. Recognize and measure the identifiable assets acquired, the liabilities assumed, and any non-
controlling interest in the acquiree
d. Recognize and measure the goodwill or gain from a bargain purchase
Identifying the acquirer
Control by the investor exists when it has all of the following:

a. power over the investee
b. exposure, or rights , to variable returns from its involvement with the investee; and
c. the ability to use its power over the investee to affect the amount of the investors returns
Determining the acquisition date
This is the date when the acquirer obtains control of the acquiree (when the acquirer legally transfers the
consideration, acquires the assets and assumes the liabilities of the acquiree), normally the closing date.
The selection of the date affects the accounting for business combination:
1. The identifiable assets acquired and liabilities assumed are measured at the fair value on the
acquisition date.
2. The consideration paid by the acquirer is determined as the sum of the fair values of assets given,
equity issued and/or liabilities undertaken in an exchange for net assets or shares of another entity.
3. The acquirer may acquire only some of the shares of the acquiree. Non-controlling interest is also
measured at fair value on acquisition date.
4. If the acquirer who has previously acquired an equity interest and subsequently obtains control by
acquiring additional shares, the fair value of this investment is measured as of the acquisition date.
COLLEGE OF COMMERCE
Recognizing and measuring the identifiable assets acquired, the liabilities assumed, and any non-
controlling interest in the acquiree
The acquirer shall measure the identifiable assets acquired and the liabilities assumed at their acquisition-
date fair values. It may also recognize some assets and liabilities that the acquiree had not previously
recognized in its financial statements such as identifiable intangible assets previously not recognized as
assets in its financial statements because they were internally developed and charged to expense.
The acquirer shall measure any non-controlling interest in the acquiree either at fair value or at the non-
controlling interest’s proportionate share of the acquiree’s identifiable net assets.
Recognizing and measuring the goodwill or gain from a bargain purchase
Goodwill is an asset representing the future economic benefits arising from other assets acquired in a
business combination that are not individually identified and separately recognized.
Bargain purchases is a business combination the effect of which is the opposite of goodwill. There is no
recognition of goodwill. It is actually a gain on the part of the acquirer and should be recognized in profit
or loss on the acquisition date.
There can be no goodwill and bargain purchase at the same time.
For computational purposes, remember the following:
A - compute the consideration transferred or purchase price including any

contingent consideration
B - determine the fair value of the acquirer’s previously held equity
interest in the acquiree, if any
C - determine the amount of NCI
D - compute the fair value of the identifiable net assets acquired from the
acquiree
E - determine the goodwill or gain on acquisition of business
(A + B + C) > D = Goodwill
(A + B + C) < D = Gain
Or
Consideration Transferred
Less: Fair value of Identifiable assets acquired and liabilities assumed
Goodwill (Gain on Bargain Purchase)
COLLEGE OF COMMERCE
from Adv Acctg Vol. 2 Guerrero 2017
X Company Balance Sheet

as of Dec 31, 2016
COLLEGE OF COMMERCE
1.2 VALUATION OF IDENTIFIABLE ASSETS AND LIABILITIES
Measurement of fair value as provided in IFRS:
Cash, cash equivalents and short-term monetary assets given and short-term liabilities incurred are
measured at their fair value, which is normally equal to their face value or nominal value. Deferred
consideration is measured and recorded at the present value of the consideration and not at the nominal
value of the payable. The rate of discounting is the acquirer’s current borrowing cost.
COLLEGE OF COMMERCE
Equity Instruments are measured at their fair value. For quoted equity instruments issued, the published
price at the date of exchange is used as it provides the best evidence of the instrument’s fair value.
Non-financial assets transferred are measured by reference to their market prices, estimated realizable
values, independent valuations or other available information relevant to the valuation. If the fair value
differs from the carrying amount as of the acquisition date, the acquirer measures the carrying amount of
the fair value and recognizes the resulting gain or loss. When a property is transferred to the acquiree rather
than its former shareholders, the acquirer shall measure the non-monetary assets at their carrying amounts
rather than their fair value with no recognition of gain or loss both before and after the business combination.
Future losses or other costs expected to be incurred as a result of a combination are not liabilities incurred
or assumed by the acquirer and are not included as part of the cost of combination, but shall be accounted
for as losses and expenses in the post combination period when they are incurred.
1.3 ACQUISITION OF NET ASSETS

Assume that J&J has the following Statement of Financial Position as of June 30, 2017:
Fair value for all accounts have been measured and are as follows:
COLLEGE OF COMMERCE
Case 1: Price paid exceeds the fair value of the net identifiable assets acquired.
Acquirer, Inc. issues 80,000 shares of its P10 par Price paid (80,000 shares @ P40) P3,200,000
value common stock with market value of P40 for Fair value of net assets 2,620,000
J&J’s net assets. Acquirer paid professional fees of Goodwill 580,000
P50,000 and stock issuance costs of P30,000
Acquisition related costs are the costs that the acquirer incurs to effect a business combination. Direct costs
include finder’s fee, advisory, legal, accounting and other professional or consulting fees. Indirect costs
are general administrative costs, cost of duplicating facilities and cost of maintaining an internal acquisitions
department. These are considered expenses. (However, PFRS for SMEs treat direct costs as capitalizable)
Any cost to issue debt or equity securities are your debited to APIC account (equity) or to Bond Issue
Costs (debt).
COLLEGE OF COMMERCE
Case 2: Price paid is less than the fair value of the net identifiable assets acquired.
Acquirer, Inc. issues 20,000 shares of its P115 par Price paid (20,000 shares @ P120) P2,400,000
value common stock with market value of P120 for Fair value of net assets 2,620,000
J&J’s net assets. Acquirer paid professional fees Gain on acquisition (bargain purchase) (220,000)
of P50,000 and stock issuance costs of P130,000
Separate line item

in statement of
comprehensive
income
Issuance costs in
excess of the additional
paid in capital will be
debited to the Stock
issuance costs account
(deduction from RE)
1.4 CONTINGENT CONSIDERATION
Is an obligation of the acquirer to transfer additional assets or equity interests to the former owners of an
acquiree dependent on some future event such as financial performance of the acquiree. The consideration
transferred includes any asset or liability resulting from a contingent consideration arrangement measured
at its fair value.
COLLEGE OF COMMERCE
Subsequent accounting for contingent consideration include the following:

1. changes that are the result of the acquiree obtaining additional information about facts and
circumstances that existed at the acquisition date, and that occur within the measurement period
(maximum of 1 year from acquisition date), are recognized as adjustments against the original
accounting for the acquisition (affecting goodwill)
2. changes resulting from events after the acquisition date (meeting an earnings target , reaching a
specified share price , or reaching a milestone on a research and development project) are not
measurement period adjustments and accounted for separately from the business combination.
3. the acquirer accounts for changes in the fair value of contingent consideration that are not
measurement period adjustments by classifying the contingent consideration as an equity (if
additional shares will satisfy the contingent consideration) or as an asset or liability (if contingent
consideration will be paid in cash or another asset) that is a financial instrument measured at fair
value, with any resulting gain or loss recognized either in profit or loss or in other comprehensive
income (PFRS 9) and if not within the scope of PFRS 9, it is accounted for in accordance with PAS
37 or other PFRS.
Contingent Consideration in Acquisition of Net Assets
Assume that Acquirer, Inc. issued 80,000 shares with market Stocks issued at market value P3,200,000
value of P3,200,000. The acquirer also agreed to pay an Estimated value of contingent
additional P200,000 on January 1, 2018 IF the average consideration 100,000
income for the 2-year period 2016 and 2017 exceeds Total price paid 3,300,000
P160,000 per year. Expected value is estimated at P100,000 Fair value of net assets 2,620,000
with 50% probability of achieving the target average income. Goodwill 680,000
COLLEGE OF COMMERCE
Recording Changes in Contingent Consideration
Changes that are the result of the acquirer obtaining additional information about facts and circumstances
that existed at the acquisition date, and that occur within the measurement period, are recognized as
adjustments against the original accounting for the acquisition (and may affect goodwill).
If during the measurement period, the contingent consideration was revalued based on additional
information, the estimated liability and goodwill (gain on acquisition) would be adjusted.
If expected value of the estimate on target Goodwill 50,000

income was increased by P50,000 Contingent Consideration Payable 50,000
Changes resulting from events after the acquisition date are not measurement period
adjustments. Accounting for such change depends on whether the additional consideration is an equity
instrument OR cash or other assets paid or owed. If it is equity, the original amount is not remeasured. If
it is cash or other assets, the changed amount is recognized in profit or loss.
If the estimate is again revised after the Assume a P30,000 increase

measurement period, the adjustment is Loss on contingent consideration payable 30,000
included in profit or loss in the later period. Contingent Consideration Payable 30,000
Assume the contingent event occurs wherein No change in entry affecting original acquisition, but
10,000 additional shares, P10 par value, will only the issuance of the additional shares
be issued if the average income exceeds Additional paid-in capital 100,000
P160,000 per year. Common stock, P10 par 100,000
Recording Changes in Contingent Consideration
During the measurement period, values assigned to accounts recorded as a part of the acquisition may be
adjusted to reflect the value of the accounts as of the acquisition date. Changes in value after the acquisition
date are not part of this adjustment, but are adjusted to income in the period they occur.
The values recorded on the acquisition date are considered “provisional”. They must be used in financial
statements with dates prior to the end of the measurement period. Measurement period ends one year from
the acquisition date OR the date when the acquirer receives needed information OR when no better
information is available, whichever comes first.
COLLEGE OF COMMERCE
COLLEGE OF COMMERCE
Here, we use the

BOOK VALUES and
not the FAIR VALUES
COLLEGE OF COMMERCE
1.5 ACQUISITION OF STOCK
In a stock acquisition, the acquiring company deals only with existing shareholders of the acquired
company and not the company itself.
On December 31, 2020, P Company acquired all Investment in S Company 1,000,000

10,000 issued and outstanding shares of S Cash 1,000,000
Company’s P50 par value common stock for
P1,000,000 cash. P also paid professional fees Acquisition expense 50,000
of P50,000. Cash 50,000
The acquisition is recorded in an Investment account that represents the controlling interest in the net assets
of the subsidiary. On the date of acquisition, no goodwill or income is recorded by the acquirer. These are
to be recognized only in the consolidated financial statements. After the acquisition, the subsidiary will not
be dissolved, but a parent/ subsidiary relationship now exists.
The Investment in Subsidiary account appears as long-term investment on P’s Separate Statement of
Financial Position if consolidation were not required (control does not exist). If statements are
required, the Statement of Financial Position of the two companies must be combined into a single
Consolidated Statement of Financial Position which is prepared on the date of acquisition and or the date
subsequent to acquisition.
Recording Contingent Consideration In Acquisition Of Stock
On January 1, 2020, Pepe acquires a 75% interest in the equity capital of Sese whose identifiable assets and
liabilities are valued at P20 million. The maintainable profits of Sese are estimated at P4 million per
year. On the basis of a price- earnings ratio of 10 times, the fair value of the ordinary shares of Sese is
estimated at P40 million.
The purchase consideration consists of the following terms:

1. initial payment of P10 million on January 1, 2020
2. amount of P11 million payable on January 1, 2021contingent on achievement of the maintainable
profit of P4 million in the first year; and
3. P12.1 million payable on January 1, 2022 contingent on the achievement of the maintainable profit
of P4 million in the second year.
In the past 5 years, Sese’s maintainable profits have been averaging at P 4 million per year and it is
probable that this level of profits would be maintained in the future. At the acquisition date, Pepe’s
borrowing cost is 10% per year.
Initial payment 10M Investment in subsidiary 30M

Contingent consideration payable 11/1.10 10M Cash 10M
Contingent consideration payable 12.1/1.10 10M Contingent Consideration Payable 20M
Cost of combination 30M
COLLEGE OF COMMERCE
The goodwill on combination Pepe recognizes the liability and payment:

Fair value of consideration transferred P30M At year 1
Non-controlling Interest at FV (25% x 40M) 10M Interest expense (10%x20M) 2M
Total 40M Contingent Consideration Payable 9M
Cash 11M
Less: FV of identifiable net assets 20M
At year 2
Goodwill on combination 20M Interest expense (10%x11M) 1.1M
Contingent Consideration Payable 11.0M
CCP 20M less 1st yr payment 9M Cash 12.1M
1.6 ACCOUNTING FOR MEASUREMENT ADJUSTMENT
Measurement of the fair value of consideration transferred including the contingent consideration, the fair
value of identifiable net assets acquired, the fair value of non-controlling interest, and the fair value of
previously held equity interest in the acquiree may require several days to even a year to be completed. For
this reason, provisional fair values are used on the date of acquisition. Adjustment of provisional values
can be made subsequent to the date of acquisition but the allowed period is 12 months from such date.
Retrospective adjustment illustration. Suppose that A Co. acquires Y Co. on October 1, 2020. A Co. seeks
an independent valuation for an equipment acquired in the combination, and evaluation was not complete
by the time A authorized for issue its financial statements for the year ended December 31, 2020. It,
therefore, recognized a provisional fair value for the asset of P450,000. On the acquisition date, the
equipment had a remaining useful life of 5 years. After 5 months from the acquisition date , A Co. receive
the independent valuation estimating the asset’s acquisition-date fair value at P600,000.
A Co. will have to retrospectively adjust the 2020 Equipment 150,000

prior year information Goodwill 150,000
(If GAIN was recognized instead of GOODWILL, the adjustment will be to RETAINED EARNINGS)
To adjust the accumulated depreciation and Retained Earnings 7,500

recognized additional depreciation expense Accumulated Depreciation 7,500
(Oct – Dec) (P150,000 / 5 yrs x 3/12)
Let’s Solve!!!
https://www.peardeck.com/googleslides
COLLEGE OF COMMERCE
ACTIVITY – answer the given activities through your NEO LMS
1.
2.
3.
COLLEGE OF COMMERCE
Items 4 to 6.

PrE7 MODULE 1

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COLLEGE OF COMMERCE

BACHELOR OF SCIENCE IN ACCOUNTANCY

MODULE 1 BUSINESS COMBINATIONS:

MODULE 1 LEARNING OBJECTIVES:

COURSE CONTENT FOR MODULE 1:

ACTIVITY DESCRIPTION TIME TO

MODES OF BUSINESS COMBINATION:

Combining Companies Surviving Legal Form Achieved through

1.1 ACCOUNTING METHOD FOR BUSINESS COMBINATION

A business combination involves the acquisition of business with 3 elements:

In applying the acquisition method, the following steps are to be followed:

Identifying the acquirer

Control by the investor exists when it has all of the following:

Determining the acquisition date

Recognizing and measuring the goodwill or gain from a bargain purchase

There can be no goodwill and bargain purchase at the same time.

For computational purposes, remember the following:

A - compute the consideration transferred or purchase price including any

from Adv Acctg Vol. 2 Guerrero 2017

X Company Balance Sheet

1.2 VALUATION OF IDENTIFIABLE ASSETS AND LIABILITIES

Measurement of fair value as provided in IFRS:

1.3 ACQUISITION OF NET ASSETS

Separate line item

1.4 CONTINGENT CONSIDERATION

Subsequent accounting for contingent consideration include the following:

Contingent Consideration in Acquisition of Net Assets

Recording Changes in Contingent Consideration

If expected value of the estimate on target Goodwill 50,000

If the estimate is again revised after the Assume a P30,000 increase

Recording Changes in Contingent Consideration

from Adv Acctg Vol. 2 Guerrero 2017

from Adv Acctg Vol. 2 Guerrero 2017

Here, we use the

1.5 ACQUISITION OF STOCK

On December 31, 2020, P Company acquired all Investment in S Company 1,000,000

Recording Contingent Consideration In Acquisition Of Stock

The purchase consideration consists of the following terms:

Initial payment 10M Investment in subsidiary 30M

The goodwill on combination Pepe recognizes the liability and payment:

1.6 ACCOUNTING FOR MEASUREMENT ADJUSTMENT

A Co. will have to retrospectively adjust the 2020 Equipment 150,000

To adjust the accumulated depreciation and Retained Earnings 7,500

ACTIVITY – answer the given activities through your NEO LMS

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