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Tutorial 8

RQ 10.2. Discuss the importance of identifying the acquisition date.

Acquisition date is the date on which the acquirer obtains control of the acquiree.

Important because on this date:

the fair values of the identifiable assets acquired and liabilities assumed are

measured.

the fair value of the consideration transferred is measured

the goodwill or gain on bargain purchase is calculated.

CS 10. 5: Accounting for acquisition-related costs

Arguments in favour of expensing:

- These costs are not part of the fair value exchange between the buyer and the seller.

- The services received from the outlays have been consumed, and so do not give rise to

assets.

Arguments against expensing:

- Inconsistent with other accounting standards such as AASB 116 Property, Plant and

Equipment.

- The costs are an integral part of the acquisition price, with the outlays being incurred

in order to generate future benefits.

Under AASB 3, a fair value model is adopted so consistency with AASB 116 is not a strong

argument.

The acquirer is prepared to incur the costs at acquisition. Hence there must be an expectation

on the acquirer’s part that these will be recouped via future benefits from the business

combination. As noted by Ms New, business combinations do not result in immediate losses.

However, because the fair value model is used, the assets acquired cannot be stated in excess

of fair value – compare the initial measurement of financial instruments acquired under para

43 of AASB 139.

If goodwill reflects expected future benefits and is measured as a residual, then it may be

argued the total benefits acquired by the acquirer are reflected in the cost of the combination

being the sum of the consideration transferred and the directly attributable costs. Under this

view there would be a larger goodwill measured than currently recognised under AASB 3,

but no expense for the acquisition-related costs.

Note para BC366 of the Basis for Conclusions for AASB 3, the IASB argues:

1. Acquisition-related costs are not part of the fair value exchange between the buyer

and the seller.

2. They are separate transactions for which the buyer pays the fair value for the services

received.

3. These amounts do not generally represent assets of the acquirer at acquisition date

because the benefits obtained are consumed as the services are received.

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PQ 10.7

SHARK LTD – SQUID LTD

Consideration transferred

Number of shares issued = ½ (90% x 60 000)

= 27 000

Cost per share = $6.20

Consideration transferred = 27 000 x $6.20

= $167 400

A. Journal entries: Shark Ltd

Shares in Squid Ltd Dr 167 400

Share capital Cr 167 400

(Cost of shares acquired)

Share capital Dr 2 000

Cash Cr 2 000

(Costs of shares issued)

B. Determining the fair value of shares issued

In acquiring the Squid Ltd shares, Shark Ltd gives up 27 000 of its own shares. The problem

is to determine which share price should be used to determine the cost to Shark Ltd. $6.20 is

used here as it represents the fair value at date of acquisition. See Basis for Conclusions on

IFRS 3 para BC342, and section 10.5 of the text.

C.

SHARK LTD

Statement of Financial Position

Current Assets $146 000

Non-current Assets

Shares in Squid Ltd $167 400

Other 190 000

Total Non-current Assets 357 400

Total Assets 503 400

Liabilities

Creditors and provisions 28 000

Net Assets $475 400

Equity

Share capital $245 400

Reserves

Asset revaluation surplus $140 000

General 60 000 200 000

Retained earnings 30 000

Total Equity $475 400

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RQ 15.6. What are “relevant” activities?

Relevant activities are activities of the subsidiary that significantly affect the investee’s

returns.

Examples are:

(a) selling and purchasing of goods or services;

(b) managing financial assets during their life (including upon default);

(c) selecting, acquiring or disposing of assets;

(d) researching and developing new products or processes; and

(e) determining a funding structure or obtaining funding.

CS 15.2

41%

Canada Ltd Chile Ltd

Canada Ltd 41%

NCI 59% - widely held

PART 1

If the NCI is widely held then it may be argued that Canada Ltd has the capacity to control

Chile Ltd based on the potential for the NCI to outvote Canada Ltd in determining the

directors of Chile Ltd.

However, other factors should also be considered, such as:

- historical attendance at AGMs of Chile Ltd

- interest groups such as Green groups within the NCI

- geographical distribution of NCI

If the NCI were tightly held would the decision be any different?

The other key factor in the definition is the returns criterion. A parent must have the rights to

variable returns from the control exercised as well as the ability to use power to affect

returns.

In this case, many of the key policy decision seem to have been set by contract:

- must purchase 90% of TV shows from Canada Ltd

- terms & conditions of supply determined by Canada Ltd

- limited rights to engage in other businesses

- provision of marketing services

- lease of rental space.

Hence even if the NCI could dominate the Board of Chile Ltd, there is not much they can

change to increase or modify their benefits. Canada Ltd is therefore running the business. The

NCI are simply investors.

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PART 2

Whether the ownership of Chile Ltd’s shares comes from acquisition on the open market or

acquisition at incorporation of the company is not of interest as it has no effect on the

determination of control.

CS 15. 9

ALBANY LTD-ALICE LTD-DARWIN LTD

In each of these circumstances the following principles from the Basis of Conclusions to

AASB 10 should be used:

B2 To determine whether it controls an investee an investor shall assess whether it has all 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 investor’s returns.

B3 Consideration of the following factors may assist in making that determination:

(a) the purpose and design of the investee;

(b) what the relevant activities are and how decisions about those activities are made;

(c) whether the rights of the investor give it the current ability to direct the relevant activities;

(d) whether the investor is exposed, or has rights, to variable returns from its involvement

with the investee; and

(e) whether the investor has the ability to use its power over the investee to affect the amount

of the investor’s returns

A. Both Albany Ltd and Busselton Ltd hold 50% of the shares in Dunsborough Ltd, with

Busselton Ltd actually directing Dunsborough Ltd because of its management expertise.

In this circumstance, Esperence Ltd is not a subsidiary of either company.

Neither investor has the power over Esperence Ltd, as neither investor holds existing

rights to enable it to direct the relevant activities of Esperence Ltd. Although Albany Ltd

allows Busselton Ltd to currently manage the investee, it can step in at any time and

challenge the management arrangements.

As neither investor holds more than 50% of the shares, neither has power. Hence there is

no need for any consolidated financial statements to be prepared.

B. Alice Ltd currently has the ability to elect a majority of directors of Springs Ltd. This has

occurred potentially just because of its expertise in the mining industry. As in (a) above,

this does not give it power over Springs Ltd.

There is no information to suggest that the other 65% of shareholders in Springs Ltd

could not get together and change the management of Springs Ltd. Alice Ltd does not

have power over Springs Ltd.

Alice Ltd does not have to prepare consolidated financial statements.

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C. Currently Darwin Ltd holds 30% of the shares of Arnhem Ltd. The remaining

shareholders consist of 7 shareholders having on average 10% of Arnhem Ltd’s shares.

In relation to these investors:

- most live outside Australia

- most do not attend AGMs

Where an investor has less than a 50% holding of shares in the investee, judgement is

required to determine whether control exists. It is necessary to examine the potential

actions of the holders of the other shares in Arnhem Ltd.

In this case, it is difficult to make a decision as:

- The fact that there are only 7 others shareholders with 10% each, only 3 of these

need to get together to have the same voting capacity as Darwin Ltd. This lessens

the likelihood of Darwin Ltd having control.

- The fact that most live outside Australia lessens the probability of these

shareholders getting together to take control. However, they could give their

proxies to each other.

- The attendance at AGMs is low by the other shareholders. This however can

change if these shareholders become dissatisfied with Darwin Ltd as a manager.

- The other shareholders have an interest in management shown by their appointing

3 of the directors – only 1 less than Darwin’s 4 directors. As the shareholders have

an interest – as opposed to being apathetic – the probability of becoming involved

if they become dissatisfied with Darwin Ltd is higher.

On balance, Darwin Ltd is probably not a parent of Arnhem Ltd as it does not have

sufficient power to continue to direct the relevant activities of Arnhem Ltd.