IFRS 3 – Definition of a business (continuing)
The Committee received a request for clarification on whether an asset with relatively simple associated processes meets the definition of a business in accordance with IFRS 3. In particular, the submission questioned whether the acquisition of a contract to provide services alongside the acquisition of an asset constitutes a business combination.
The particular submission highlighted diversity in practice in acquisitions of a single investment property with lease agreements with multiple tenants over varying periods and associated processes, such as cleaning, maintenance and administrative services (e.g., rent collection). The submission noted that while some consider the acquisition of such an investment property together with an obligation to render services to be a business combination as defined in IFRS 3, others believe that it is the acquisition of only a single investment property.
Following the July 2011 Committee meeting in which the Committee asked the staff to perform further research on whether IFRS 3 and IAS 40 Investment Property are mutually exclusive (i.e., can the acquisition of an investment property be a business combination) and whether it would be possible to develop guidance on how to determine if and when an obligation incurred in order to provide services in association with the acquisition of an asset would lead to a business combination, the staff presented its analysis. Analysis included feedback from National Standard Setters which suggested that the issue is widespread and has practical relevance, with significant diversity in practice.
Based on this outreach and other relevant analyses, the staff proposed amending the application guidance in Appendix B of IFRS 3 and adding application guidance to IAS 40, which includes concepts such as follows:
- A contract requiring the provision of ongoing services related to an asset should be viewed as creating a rebuttable presumption that there are processes that give rise, together with the asset, to a business.
- A service that the customer would obtain from an external supplier if the owner of the asset would not render it is an indicator that the service is related to the asset in the sense that it forms part of an integrated set of activities and assets that constitutes a business.
- The presumption that there is a business because of a contract to provide ongoing services related to an asset is rebutted, if the services delivered are insignificant compared to the customers' right to use the asset (i.e., the access to the asset).
Many Committee members disagreed with the proposals by the staff. Specifically, several Committee members expressed a desire to focus on the definition of a business – specifically clarifying paragraphs B7 – B11 of IFRS 3 on what constitutes a business. Specific concerns with the guidance in paragraphs B7 – B11 included apparent contradiction in paragraphs B8 and B11, as well as the nature of elements required in a business, where multiple Committee members noted that the focus on the capability of producing output was too broad as nearly every asset was capable of producing an output if aggregated with other inputs. Thus, several Committee members requested that this issue (i.e., clarifying paragraphs B7 – B11 of IFRS 3) be taken to the IASB as part of a larger project.
Another Committee member highlighted his view that IFRS 3 and IAS 40 are not mutually exclusive, and ancillary services under the two standards differ. Thus, he expressed a possible way forward of clarifying the mutual exclusivity through an annual improvement. However, the broader issue of clarifying paragraphs B7 – B11 of IFRS 3 would be left open. Yet another view was to clarify paragraph 20 of IAS 40 through an annual improvement, which would require measurement of a business combination under IFRS 3 with reference to IFRS 3 in defining a business. Thus, preparers would be forced to evaluate under IFRS 3 instead of bypassing IFRS 3 in performing an IAS 40 assessment.
Following extensive discussion, the Committee tentatively decided:
- to defer any final decisions while the staff conducts additional outreach of interested parties from a range of industry sectors on this topic;
- to consider the possibility of limiting the issue to an annual improvement directed at the real estate sector (absent specific interests of other sectors throughout outreach outlined above), although many did not support limiting the scope in this way; and
- to request that the staff perform further analysis on transitional provisions and the potential impact of the above decisions on current practice.