101 Concepts for the Level I Exam

Essential Concept 22: Business Combinations

Under IFRS, there is no distinction between business combinations. Under US GAAP, there are four types: merger, acquisition, consolidation, and variable interest entity.

The acquisition method is used for business combinations.

Acquisition method

The major points related to the acquisition method are listed below:

Identifiable tangible and intangible assets (brand names, patents etc.) and liabilities of the acquired company are measured at fair value on the date of the acquisition.
Assets and liabilities that were not previously recognized by the acquiree must be recognized by the acquirer.
The acquirer must recognize any contingent liability if it can be reliably measured and the obligation arises from past events.
The acquirer must recognize an indemnification asset on the acquisition date.
At the acquisition date, the acquirer can reclassify financial assets and liabilities of the acquiree (for example, from held-to-maturity to available for sale).
Recognition of goodwill differs between IFRS and US GAAP:
- - IFRS has two options for goodwill: partial goodwill and full goodwill.
Partial goodwill = fair value of the acquisition – acquirer’s share of the fair of all acquiree’s assets and liabilities

Full goodwill = fair value of the entity as a whole – the fair value of all acquiree’s assets and liabilities

- US GAAP allows only full goodwill.
In an acquisition, when the purchase price is less than the fair value of the target’s (acquiree’s) net assets, the acquisition is considered to be a bargain acquisition. IFRS and US GAAP require the difference between the fair value of the acquired net assets and the purchase price to be recognized immediately as a gain.