Business Combinations Phase 2
Assets acquired in a business combination that are subject to an operating lease to which the acquiree is the lessor
The Board discussed the valuation of an asset acquired in a business combination in which the acquiree is a lessor under an operating lease.
The acquirer separately assesses whether each of the acquiree's operating leases are at market terms as of the acquisition date, regardless of whether the acquiree is the lessee or lessor. If an operating lease is not at market terms as of the acquisition date, the acquirer recognises an intangible asset (liability) separate from the asset subject to the operating lease if the terms of the operating lease are favourable (unfavourable) relative to market terms.
The fair value of an acquired asset that is subject to an operating lease reflects the favourable or unfavourable terms of the operating lease and a separate asset or liability is not recognised.
The staff noted that alternative 1 is consistent with the FASB's previous decision in this project while alternative 2 reflects the current practice under IFRSs.
The discussion mainly focused on the implications the two alternatives would have on assets for which a fair value model is applied; particularly assets measured at fair value under IAS 40 Investment Property. Some Board members pointed out that alternative 1 would be inconsistent with IAS 40 and, therefore, should not be applied. Others expressed the opinion that it is just an aggregation issue and that no divergence to US GAAP should arise.
Finally, a majority of the Board voted for alternative 2.
Several respondents to the Business Combinations Exposure Draft (BC ED) commented that the BC ED does not provide guidance on whether, and in what circumstances, a business combination triggers a reassessment of the acquiree's classification or designation of assets, liabilities, equity, and relationships acquired in a business combination. The types of reassessment issue include:
- Classification of leases as operating or finance leases;
- Classification of contracts as insurance contracts;
- Classification of assets as held for sale;
- Whether embedded derivatives should be separated from the host;
- Continuation or de-designation of hedge relationships;
- Classification of financial instruments (for example, as held-to-maturity, available-for-sale, or at fair value through profit or loss).
The staff proposed to develop a general principle to address this issue and presented two views.
The classification by the acquirer should be the same as it would have been had the particular assets and liabilities been acquired outside a business combination. This view is likely to result in many of the items outlined above being reassessed.
A business combination is different from other acquisitions and in many cases it is the continuation of an existing business by a new owner. This view is likely to result in many items remaining intact from a group perspective.
It appeared that the majority of Board members would prefer a general principle with the following key elements:
- If the acquiree holds long term contractual positions such as leases and insurance contracts no reassessment should be made to these contracts and the treatment of the corresponding assets and liabilities as at the acquisition date since the business combination itself does not change the terms of the contracts.
- If the acquiree holds assets and liabilities that have to be reassessed on an ongoing basis (for instance, assets held for sale, hedging, classifications for held-to-maturity) a reassessment should be made as at the acquisition date taking into account the implications of the business combination (e.g. the strategy of the acquirer).
The Board did not make a decision. The Board asked the staff to further elaborate this issue and to bring it back at a future meeting.
Proposed Amendments to IAS 27 and Proposed Replacement of US ARB No. 51
Attribution of profits and losses to controlling and non-controlling interests (NCI, historically called minority interest)
(a) Attribution of profit or loss and changes in equity/OCI in general
The Board decided to add guidance to the BC ED similar to the guidance in paragraph 21 of the FASB exposure draft. Paragraph 21 of the FASB exposure draft states:
Net income or loss and each component of other comprehensive income shall be attributed to the controlling and non-controlling interests. That attribution shall be based on relative ownership interests unless the controlling and non-controlling interests have entered into a contractual arrangement that requires net income or loss or the components of other comprehensive income to be attributed differently between them. In that case, net income or loss and the components of other comprehensive income shall be attributed to the controlling and non-controlling interests based on the contractual requirements of that arrangement.
The Board did not discuss the wording in detail.
(b) Attribution of losses in excess of the equity of the non-controlling interest
The Board reaffirmed the guidance in paragraph 35 of the BC ED of proposed amendments to IAS 27 Consolidated and Separate Financial Statements (ED IAS 27) that losses applicable to a non-controlling interest (NCI) should be attributed to them, even if doing, would result in NCI being reported as a deficit.
The Board decided not to require additional disclosures explaining contractual and other factors regarding the recoverability of those deficits.
Multiple arrangements that should be accounted for as a single transaction
Based on comment letters received on the ED IAS 27 the staff proposed to improve the guidance in paragraph 30F of the ED IAS 27 as follows:
A parent may lose cControl of a subsidiary may be lost in two or more transactions or arrangements (transactions). In some cases, An entity shall account for each such transaction or arrangement separately unless circumstances indicate that the transactions or multiple arrangements are part of a single transaction or arrangement. In determining whether to account for the transactions or arrangements as a single transaction or arrangement, an entity shall consider all of the terms and conditions of the transactions and arrangements and their economic effects. If oOne or more of the following indicators are present, the transactions or may indicate that the multiple arrangements are to shall be accounted for as a single transaction or arrangement:
- (a) they are entered into at the same time or as part of a continuous sequence and in contemplation of one another.
- (b) they are entered into in contemplation of one another
- (c) they form a single arrangement that achieves, or is designed to achieve, an overall commercial effect.
- (d) the occurrence of one transaction or arrangement is dependent on the occurrence of at least one the other transaction(s) or arrangement(s).
- (e) one or more of the transactions or arrangements considered on their its own is not economically justified, but they are economically justified when considered together. An example is when one disposal is priced below market, compensated for by a subsequent disposal priced above market.
Consequential amendments in ED IAS 27
The Board made the following decision with regard to consequential amendments.
(a) IAS 28 Investments in Associates and IAS 31 Interests in Joint Ventures
Paragraphs A6 and A7 of the ED IAS 27 amending IAS 28 and IAS 31 provide guidance on accounting for a step down, that is, the loss of significant influence or the loss of joint control but does not address the achievement of significant influence or joint control and transactions between shareholders once significant influence or joint control has been achieved.
The Board reaffirmed by vote of 13 to 1 the guidance in paragraphs A6 and A7 of the ED IAS 27. The Board member voting against the proposal noted that any guidance on application of IAS 28 and IAS 31 is outside the scope of the Business Combinations project.
In addition, the Board decided by a 12 to 2 vote not to perform any further research in this respect as part of the Business Combinations project.
(b) IAS 21 The Effects of Changes in Foreign Exchange Rates
With regard to changes in the parent's ownership in a foreign subsidiary, paragraph D8 of the FASB ED states:
Upon sale or upon complete or substantially complete liquidation of an investment in a foreign entity that results in a loss of control of that entity, the amount attributable to that entity and accumulated in the translation adjustment component of equity shall be removed from the separate component of equity and shall be reported as part of the gain or loss on sale or liquidation of the investment for the period during which the sale or liquidation occurs. If an entity sells part of its ownership interest in, but does not lose control of, a foreign entity, that transactions should be accounted for as an equity transaction in accordance with paragraph 23 of FASB Statement No. 1XX, Consolidated Financial Statements, Including Accounting and Reporting of Non-controlling Interests in Subsidiaries. In accordance with that Statement, the translation adjustment component of equity should be reallocated to the controlling and non-controlling interests in the foreign entity after the transaction. (Emphasis added)
The Board agreed, without detailed discussion, to add equivalent wording to paragraph A5 of the ED IAS 27 amending IAS 21.
(c) IAS 33 Earnings Per Share
The Board decided not to address any further issues with regard to IAS 33.
Transition and effective date
With regard to the transition provisions of the final Business Combinations standard (BC standard) and the final Noncontrolling Interest Standard (NCI standard) the Board decided that:
- The final BC standard should be applied prospectively to business combinations for which the acquisition date is on or after the date that the standard is applied
- Retrospective application of the BC standard to acquisitions completed before the BC standard is applied should be precluded
- The final BC standard should be applied at the same time the final NCI standard is applied
- The NCI standard should be applied at the beginning of an annual period and the BC standard should be applied at the beginning of the same annual period
- Earlier application of the standards should be permitted
- The transition provision for previously recognised contingent liabilities should be eliminated