IFRS 3 — Business Combinations
IFRS 3 Business Combinations outlines the accounting when an acquirer obtains control of a business (e.g. an acquisition or merger). Such business combinations are accounted for using the 'acquisition method', which generally requires assets acquired and liabilities assumed to be measured at their fair values at the acquisition date.
A revised version of IFRS 3 was issued in January 2008 and applies to business combinations occurring in an entity's first annual period beginning on or after 1 July 2009.
History of IFRS 3
|July 2001||Project added to IASB agenda
(carried over from the old IASC)
|History of the project|
|5 December 2002||Exposure Draft ED 3 Business Combinations and related exposure drafts proposing amendments to IAS 36 and IAS 38 published||Comment deadline 4 April 2003|
|31 March 2004||IFRS 3 Business Combinations (2004) and related amended versions of IAS 36 and IAS 38 published
(IFRS 3 supersedes IAS 22)
|Effective for business combinations for which the agreement date is on or after 31 March 2004|
|29 April 2004||Exposure Draft Combinations by Contract Alone or Involving Mutual Entities published
(These proposals were not finalised, but instead considered as part of the June 2005 exposure draft)
|Comment deadline 31 July 2004|
|30 June 2005||Exposure Draft Proposed Amendments to IFRS 3 published||Comment deadline 28 October 2005|
|10 January 2008||IFRS 3 Business Combinations (2008) issued||Applies to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after 1 July 2009|
|6 May 2010||Amended by Annual Improvements to IFRSs 2010 (measurement of non-controlling interests, replaced share-based payment awards, transitional arrangements for contingent consideration)||Effective for annual periods beginning on or after 1 July 2010|
|12 December 2013||Amended by Annual Improvements to IFRSs 2010–2012 Cycle (contingent consideration)||Applicable for business combinations for which the acquisition date is on or after 1 July 2014|
|12 December 2013||Amended by Annual Improvements to IFRSs 2011–2013 Cycle (scope exception for joint ventures)||Effective for annual periods beginning on or after 1 July 2014|
Amendments under consideration by the IASB
Summary of IFRS 3
IFRS 3 (2008) replaced IFRS 3 (2004). IFRS 3 (2008) resulted from a joint project with the US Financial Accounting Standards Board. FASB issued a similar standard in December 2007 (SFAS 141(R)). The revisions result in a high degree of convergence between IFRSs and US GAAP in these areas, although some potentially significant differences remain.
Definition of a business combination. A business combination is a transaction or event in which an acquirer obtains control of one or more businesses. A business is defined as an integrated set of activities and assets that is capable of being conducted and managed for the purpose of providing a return directly to investors or other owners, members or participants. [IFRS 3.Appendix A]
Acquirer must be identified. Under IFRS 3, an acquirer must be identified for all business combinations. [IFRS 3.6]
Scope changes from IFRS 3(2004). IFRS 3(2008) applies to combinations of mutual entities and combinations without consideration (dual listed shares). These are excluded from IFRS 3(2004).
Scope exclusions. IFRS 3 does not apply to the formation of a joint venture*, combinations of entities or businesses under common control. The IASB added to its agenda a separate agenda project on common control transactions in December 2007. Also, IFRS 3 does not apply to the acquisition of an asset or a group of assets that do not constitute a business. [IFRS 3.2]
* Annual Improvements to IFRSs 2011–2013 Cycle, effective for annual periods beginning on or after 1 July 2014, amends this scope exclusion to clarify that is applies to the accounting for the formation of a joint arrangement in the financial statements of the joint arrangement itself.
Method of accounting for business combinations
Acquisition method. The acquisition method (called the 'purchase method' in the 2004 version of IFRS 3) is used for all business combinations. [IFRS 3.4]
Steps in applying the acquisition method are: [IFRS 3.5]
- Identification of the 'acquirer' – the combining entity that obtains control of the acquiree [IFRS 3.7]
- Determination of the 'acquisition date' – the date on which the acquirer obtains control of the acquiree [IFRS 3.8]
- Recognition and measurement of the identifiable assets acquired, the liabilities assumed and any non-controlling interest (NCI, formerly called minority interest) in the acquiree
- Recognition and measurement of goodwill or a gain from a bargain purchase
Measurement of acquired assets and liabilities. Assets and liabilities are measured at their acquisition-date fair value (with a limited number of specified exceptions). [IFRS 3.18]
Measurement of NCI. IFRS 3 allows an accounting policy choice, available on a transaction by transaction basis, to measure NCI either at:
- fair value (sometimes called the full goodwill method), or
- the NCI's proportionate share of net assets of the acquiree (option is available on a transaction by transaction basis).
Example: P pays 800 to purchase 80% of the shares of S. Fair value of 100% of S's identifiable net assets is 600. If P elects to measure non-controlling interests as their proportionate interest in the net assets of S of 120 (20% x 600), the consolidated financial statements show goodwill of 320 (800 +120 - 600). If P elects to measure non-controlling interests at fair value and determines that fair value to be 185, then goodwill of 385 is recognised (800 + 185 - 600). The fair value of the 20% non-controlling interest in S will not necessarily be proportionate to the price paid by P for its 80%, primarily due to control premium or discount as explained in paragraph B45 of IFRS 3. [IFRS 3.19]
Acquired intangible assets. Must always be recognised and measured at fair value. There is no 'reliable measurement' exception.
Goodwill is measured as the difference between:
- the aggregate of (i) the acquisition-date fair value of the consideration transferred, (ii) the amount of any NCI, and (iii) in a business combination achieved in stages (see Below), the acquisition-date fair value of the acquirer's previously-held equity interest in the acquiree; and
- the net of the acquisition-date amounts of the identifiable assets acquired and the liabilities assumed (measured in accordance with IFRS 3). [IFRS 3.32]
If the difference above is negative, the resulting gain is recognised as a bargain purchase in profit or loss. [IFRS 3.34]
Business combination achieved in stages (step acquisitions)
Prior to control being obtained, the investment is accounted for under IAS 28, IAS 31, or IAS 39, as appropriate. On the date that control is obtained, the fair values of the acquired entity's assets and liabilities, including goodwill, are measured (with the option to measure full goodwill or only the acquirer's percentage of goodwill). Any resulting adjustments to previously recognised assets and liabilities are recognised in profit or loss. Thus, attaining control triggers remeasurement. [IFRS 3.41-42]
If the initial accounting for a business combination can be determined only provisionally by the end of the first reporting period, the business combination is accounted for the combination using provisional values. Adjustments to provisional amounts, and the recognition of newly identified asset and liabilities, must be made within the 'measurement period' where they reflect new information obtained about facts and circumstances that were in existence at the acquisition date. [IFRS 3.45] The measurement period cannot exceed one year from the acquisition date and no adjustments are permitted after one year except to correct an error in accordance with IAS 8. [IFRS 3.50]
Cost of an acquisition
Measurement. Consideration for the acquisition includes the acquisition-date fair value of contingent consideration. Changes to contingent consideration resulting from events after the acquisition date must be recognised in profit or loss. [IFRS 3.58]
Acquisition costs. Costs of issuing debt or equity instruments are accounted for under IAS 32 and IAS 39. All other costs associated with the acquisition must be expensed, including reimbursements to the acquiree for bearing some of the acquisition costs. Examples of costs to be expensed include finder's fees; advisory, legal, accounting, valuation and other professional or consulting fees; and general administrative costs, including the costs of maintaining an internal acquisitions department. [IFRS 3.53]
Contingent consideration. Contingent consideration must be measured at fair value at the time of the business combination. If the amount of contingent consideration changes as a result of a post-acquisition event (such as meeting an earnings target), accounting for the change in consideration depends on whether the additional consideration is classified as an equity instrument or an asset or liability: [IFRS 3.58]
- If the contingent consideration is classified as an equity instrument, the original amount is not remeasured
- If the additional consideration is classified as an asset or liability that is a financial instrument, the contingent consideration is measured at fair value and gains and losses are recognised in either profit or loss or other comprehensive income in accordance with IFRS 9 Financial Instruments or IAS 39 Financial Instruments: Recognition and Measurement
- If the additional consideration is not within the scope of IFRS 9 (or IAS 39), it is accounted for in accordance with IAS 37 Provisions, Contingent Liabilities and Contingent Assets or other IFRSs as appropriate.
Note: Annual Improvements to IFRSs 2010–2012 Cycle changes these requirements for business combinations for which the acquisition date is on or after 1 July 2014. Under the amended requirements, contingent consideration that is classified as an asset or liability is measured at fair value at each reporting date and changes in fair value are recognised in profit or loss, both for contingent consideration that is within the scope of IFRS 9/IAS 39 or otherwise.
Where a change in the fair value of contingent consideration is the result of additional information about facts and circumstances that existed at the acquisition date, these changes are accounted for as measurement period adjustments if they arise during the measurement period (see above). [IFRS 3.58]
Pre-existing relationships and reacquired rights
If the acquirer and acquiree were parties to a pre-existing relationship (for instance, the acquirer had granted the acquiree a right to use its intellectual property), this must must be accounted for separately from the business combination. In most cases, this will lead to the recognition of a gain or loss for the amount of the consideration transferred to the vendor which effectively represents a 'settlement' of the pre-existing relationship. The amount of the gain or loss is measured as follows:
- for pre-existing non-contractual relationships (for example, a lawsuit): by reference to fair value
- for pre-existing contractual relationships: at the lesser of (a) the favourable/unfavourable contract position and (b) any stated settlement provisions in the contract available to the counterparty to whom the contract is unfavourable. [IFRS 3.B51-53]
However, where the transaction effectively represents a reacquired right, an intangible asset is recognised and measured on the basis of the remaining contractual term of the related contract excluding any renewals. The asset is then subsequently amortised over the remaining contractual term, again excluding any renewals. [IFRS 3.55]
In addition, IFRS 3 provides guidance on some specific aspects of business combinations including:
- business combinations achieved without the transfer of consideration [IFRS 3.43-44]
- reverse acquisitions [IFRS 3.B19]
- identifying intangible assets acquired [IFRS 3.B31-34]
- the reassessment of the acquiree's contractual arrangements at the acquisition date [IFRS 3.15]
Parent's disposal of investment or acquisition of additional investment in subsidiary
Partial disposal of an investment in a subsidiary while control is retained. This is accounted for as an equity transaction with owners, and gain or loss is not recognised.
Partial disposal of an investment in a subsidiary that results in loss of control. Loss of control triggers remeasurement of the residual holding to fair value. Any difference between fair value and carrying amount is a gain or loss on the disposal, recognised in profit or loss. Thereafter, apply IAS 28, IAS 31, or IAS 39, as appropriate, to the remaining holding.
Acquiring additional shares in the subsidiary after control was obtained. This is accounted for as an equity transaction with owners (like acquisition of 'treasury shares'). Goodwill is not remeasured.
Disclosure of information about current business combinations
The acquirer shall disclose information that enables users of its financial statements to evaluate the nature and financial effect of a business combination that occurs either during the current reporting period or after the end of the period but before the financial statements are authorised for issue. [IFRS 3.59]
Among the disclosures required to meet the foregoing objective are the following: [IFRS 3.B64-66]
- name and a description of the acquiree
- acquisition date
- percentage of voting equity interests acquired
- primary reasons for the business combination and a description of how the acquirer obtained control of the acquiree. description of the factors that make up the goodwill recognised
- qualitative description of the factors that make up the goodwill recognised, such as expected synergies from combining operations, intangible assets that do not qualify for separate recognition
- acquisition-date fair value of the total consideration transferred and the acquisition-date fair value of each major class of consideration
- details of contingent consideration arrangements and indemnification assets
- details of acquired receivables
- the amounts recognised as of the acquisition date for each major class of assets acquired and liabilities assumed
- details of contingent liabilities recognised
- total amount of goodwill that is expected to be deductible for tax purposes
- details of any transactions that are recognised separately from the acquisition of assets and assumption of liabilities in the business combination
- information about a bargain purchase ('negative goodwill')
- for each business combination in which the acquirer holds less than 100 per cent of the equity interests in the acquiree at the acquisition date, various disclosures are required
- details about a business combination achieved in stages
- information about the acquiree's revenue and profit or loss
- information about a business combination whose acquisition date is after the end of the reporting period but before the financial statements are authorised for issue
Disclosure of information about adjustments of past business combinations
The acquirer shall disclose information that enables users of its financial statements to evaluate the financial effects of adjustments recognised in the current reporting period that relate to business combinations that occurred in the period or previous reporting periods. [IFRS 3.61]
Among the disclosures required to meet the foregoing objective are the following: [IFRS 3.B67]
- details when the initial accounting for a business combination is incomplete for particular assets, liabilities, non-controlling interests or items of consideration (and the amounts recognised in the financial statements for the business combination thus have been determined only provisionally)
- follow-up information on contingent consideration
- follow-up information about contingent liabilities recognised in a business combination
- a reconciliation of the carrying amount of goodwill at the beginning and end of the reporting period, with various details shown separately
- the amount and an explanation of any gain or loss recognised in the current reporting period that both:
- (i) relates to the identifiable assets acquired or liabilities assumed in a business combination that was effected in the current or previous reporting period, and
- (ii) is of such a size, nature or incidence that disclosure is relevant to understanding the combined entity's financial statements.
Deloitte Guide to IFRS 3 and IAS 27
In July 2008, the Deloitte IFRS Global Office has published Business Combinations and Changes in Ownership Interests: A Guide to the Revised IFRS 3 and IAS 27. This 164-page guide deals mainly with accounting for business combinations under IFRS 3(2008). Where appropriate, it deals with related requirements of IAS 27(2008) – particularly as regards the definition of control, accounting for non-controlling interests, and changes in ownership interests. Other aspects of IAS 27 (such as the requirements to prepare consolidated financial statements and detailed procedures for consolidation) are not addressed.
Deloitte United States Guide to Accounting for Business Combinations
In December 2009, Deloitte United States published an updated edition of A Roadmap to Accounting for Business Combinations and Related Topics (PDF 2,197k). This 285-page book reflects the FASB Accounting Standards Codification and includes a 12-page appendix that examines differences between US GAAP and IFRSs (IFRS 3 and IASs 27, 36, and 38) on this topic.
Contents of the book: