AC506 lecture 9

1. AC506 lecture 9 • Mid-year acquisitions • Piecemeal acquisitions

2. Mid-year acquisition • Date of acquisition of a subsidiary may not coincide with the balance sheet date of the subsidiary • Necessary to identify net assets at actual date of acquisition to calculate goodwill • Profits arising during the period in which the acquisition takes place must be apportioned between those earned before and after the acquisition

3. Example • P Ltd acquired 90% of S Ltd on 30 September 2003. Balance sheet date is 31 December 2003. Assume profit accrues evenly throughout the year. • Calculate goodwill

4. Single entity accounts at 31 December

5. Cost of control account

6. Piecemeal acquisition • Between first and last purchase, the underlying value of the subsidiary is likely to change • Questions that arise are • How do we establish fair values of net assets acquired over time? • How do we measure pre-acquisition reserves for a holding acquired over time?

7. Different acquisition scenarios • Increase shareholding in an existing subsidiary • Increase shareholding from simple investment to subsidiary • Increase shareholding from associate to subsidiary

8. Increase in subsidiary holding • Pre-acquisition reserves are calculated at the date control is originally achieved • Increase in percentage holding is applied to the reserves at the date of increase in shareholding • Total pre-acquisition reserves is the sum of these two amounts • Goodwill is calculated by comparing sum of costs, share of total equity acquired and group share of pre-acquisition reserves as calculated above

9. Example • P Ltd acquired 60% of S Ltd on 31 December 2002. P Ltd increased its interest in S Ltd to 65% on 31 December 2003. • Calculate pre-acquisition reserves and goodwill for years ended 31 December 2002 and 2003.

10. Single entity accounts

11. Pre-acquisition and goodwill

12. Simple investment to subsidiary • Two possibilities for calculating pre-acquisition reserves • Single computation approach => pre-acquisition reserves are calculated by reference to the total proportion of shares held when control is first obtained • Step approach => pre-acq reserves are calculated by reference to proportion of reserves held at date of each share purchase

13. Example Single computation => 70% x 80,000 = €56,000 Step approach = percentage acquired x reserves at date of acquisition = €39,000 Influence of EU 7th directive and FRS 2

14. Exception to single computation • Prior to becoming a subsidiary, earlier purchases of shares resulted in a significant long term investment classified as an associate • Change of status from associate to subsidiary and using single step approach to pre-acquisitions reserves calculation causes two problems: • Profits already included in investor’s consolidated retained earnings (associate share of profits) would form part of pre-acquisition reserves • Aggregate cost of shares is a mixture of earlier and new costs. All fair values are calculated at a single date

15. FRS 2 solution • Compliance with legislation may be misleading • True and fair override is invoked • Goodwill should be calculated on a piecemeal basis comparing each parcel of cost with share of fair value of net assets acquired at each date of acquisition