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A business combination is the consolidation of two or more independent entities or enterprises into a single reporting entity. Almost all business combinations result in the acquisition of one or more other businesses by one company, called the acquirer.
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With a few exceptions, such as business combinations among organizations under common control and combinations comprising two or more mutual entities, IFRS 3 describes a business combination as the integration of separate entities or businesses into one single reporting entity and provides that the purchase method of accounting must be applied to all such transactions.
It is not a business combination if an entity gains control of one or more non-business entities and brings them together. The term ‘business’ is defined as an integrated set of operations and assets that can be conducted and managed for the goal of supplying goods or services to consumers, earning investment income (such as dividends or interest), or earning other income through routine activities.
The IFRS 3 aims to improve the relevance, trustworthiness, and comparability of information provided in financial statements by an entity about a business combination and its implications. It establishes standards and requirements for how an acquirer accounts for and assesses the identifiable assets purchased, the liabilities assumed, and any non-controlling interest in the acquiree in its financial statements.
Further, the Standard also acknowledges and calculates the value of goodwill obtained as part of a business combination or a profit from a bargain purchase. This IFRS assists in determining what information to disclose so that users of financial statements may analyze the type and financial consequences of the relevant business combination.
An acquirer of a firm (business) records the assets purchased and liabilities assumed at their purchase-date fair values and demonstrates information that allows the users to assess the nature and financial consequences of the transaction.
IFRS 3 contributes to the guidelines on establishing whether a transaction qualifies as a business combination and should be accounted for accordingly. The following are some examples of this advice:
The acquirer, or the entity that takes control of the other business, is always recognized as one of the parties to a business combination. Business combinations do not include the formation of a joint venture or the purchase of an asset or the purchase of a group of assets that do not represent a business.
The International Financial Reporting Standards (or IFRS) outline criteria for identifying and quantifying identifiable assets acquired, liabilities undertaken, and any non-controlling interest in the acquiree. Any classifications or designations made in recognition of these things must be made in line with the contract terms, macro-economic conditions, the acquirer’s operations or accounting procedures, and other considerations in effect at the time of acquisition.
Financial reporting for Business Combinations should indeed be handled using the purchase method of accounting, according to IFRS 3. The identifiable assets & liabilities attained should always be measured at their fair value on the date of purchase/acquisition under the purchase method of accounting. Such a method of accounting appears to demand considerably more effort than the ‘pooling of interests’ method and it typically results in the recognition of goodwill or negative goodwill on acquisition.
Hence, each identified asset and liability is valued at its fair value as of the acquisition date. Non-controlling interests in an acquiree are valued at fair market value or as a proportionate percentage of the acquiree’s net identified assets.
There are some exceptions to the principles of recognition and measurement. These are as follows:
After recognizing the identifiable assets, liabilities, and any non-controlling interests, the acquirer is required by the IFRS to identify any differences between:
Goodwill shall be recognized as a result of the difference. If the acquirer makes a profit as a result of a bargain purchase, then such gain shall be recorded in the profit or loss.
As per IFRS 3, the fair value of the consideration (including any contingent consideration) transferred in a business combination is determined.
According to IFRS 3, the cost of a business combination shall be properly calculated as the sum of the fair values existent at the date of exchange/transfer of the assets given, liabilities incurred, and any equity instruments that are issued by the acquirer in exchange for control of the acquiree, as well as any costs that are directly attributable to the business combination incurred by the acquirer.
If the Equity Instruments are issued as part of the acquisition, the market price of the equity instruments as may be existent on the date of exchange is regarded as the best evidence of fair value. Other valuation procedures are used to estimate the fair value when the market price does not exist or is not regarded as a dependable source of information.
In practice, after a business combination has been finalized, an acquirer measures and accounts for assets acquired and liabilities taken or incurred in accordance with other applicable IFRSs. However, the International Financial Reporting Standard (or IFRS) establishes accounting principles for reacquired rights, contingent consideration, contingent liabilities, and indemnification assets.
According to IFRS 3, the acquirer must disclose information that enables users of its financial statements to assess or examine the nature and financial impact of business combinations that have taken place during the present reporting period or after the reporting date but prior to the date when the financial statements are authorized for issue.
In addition, following a business combination, the acquirer is required to disclose any adjustments made in the present reporting period that relate to business combinations that took place in the present or previous reporting periods.
When an acquirer obtains control of a business, the IFRS 3 on Business Combinations explains how to account for it (e.g., an acquisition or merger). The ‘acquisition method’, which basically states that assets purchased & liabilities assumed are to be measured at their fair values at the acquisition date, is used to account for such business combinations.
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A CA together with MBA (Fin) and M Com, she relishes taking interest in insightful writing in the domain of taxation and finance. She has gained experience as a full-time author and has also served an accounting role in industry.
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