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IFRS 3 — Accounting for contingent consideration in a business combination

Date recorded:

The Staff provided an analysis of the comment letters received in relation to the IASB's proposal (included within the Exposure Draft (ED) on Annual Improvements to IFRSs 2010-2012 cycle) to clarify, within IFRS 3 Business Combinations certain aspects of accounting for contingent consideration in a business combination.  The proposed amendments attempted to address issues around classification, subsequent measurement and disclosures.

84 comment letters were received.

The ED asked:

  • Question 1 - whether the respondents agreed with the Board’s proposal to amend the IFRS as described in the Exposure Draft
  • Question 2 - whether the respondents agreed with the proposed transitional provisions and effective date for the issue

In relation to question 1, some respondents raised concerns around the proposed amendment to paragraph 40.  Concerns raised included:

  1. the amendment implies that all contingent consideration is a financial instrument
  2. the amendments could lead to confusion in practice
  3. further research is required before the reference to “other applicable IFRSs” should be deleted
  4. what requirements should be applied to contingent consideration that does not meet the definition of a financial instrument and how it should be classified?

The Staff noted that they thought that the proposed amendments were clear that contingent consideration can be either a financial instrument or a non-financial asset/liability and that the proposed wording in paragraph 40 of IFRS 3 implied that contingent consideration could be a non-financial asset/liability.  The Staff noted that the proposed paragraph 58 also made it clear that contingent consideration was not only a financial instrument.

The Staff did note that they thought that the current wording in the proposed paragraph 58(b) could be read to imply that contingent consideration must be within the scope of IFRS 9 Financial Instruments, therefore implying that contingent consideration must be a financial instrument.  The Staff proposed to amend the paragraph for this reason.

Concerns were also raised over the amendments to IFRS 3 paragraph 58 which proposed that contingent consideration that is not classified as equity shall be measured at fair value through profit or loss unless the contingent consideration is a financial instrument and IFRS 9 requires the resulting gain or loss to be recognised in other comprehensive income.  A number of respondents were unclear as to the what the appropriate measurement basis for non-financial asset/liability contingent consideration should be and how the resulting difference should be accounted for.  Respondents were also unclear as to why the IASB believed that non-financial asset/liability and financial instrument contingent consideration should be accounted for in the same way.

The Staff noted that paragraph 39 of IFRS 3 made it clear that initial measurement was at fair value and paragraph 58 made subsequent measurements clear.  The Staff did not recommend providing different subsequent measurement requirements for non-financial asset/liability contingent consideration than for financial instrument contingent consideration.

Some respondents noted that the proposed amendments contradicted the measurement requirements for derivatives in IFRS 9.  The Staff note that the proposed amendments contradict the held for trading financial liability subsequent measurement requirements in IFRS 9.  The Staff proposed amendments to IFRS 9 that would state that held for trading contingent consideration would be subsequently measured at fair value through profit or loss.

The Staff also proposed to delete the amendment proposed in the ED to IFRS 9 paragraph 4.1.2 which stated that a financial asset could not be measured at amortised cost as they were of the view that a contingent consideration financial asset could not meet the requirements to be measured at amortised cost in IFRS 9 paragraph 4.1.2 and hence this paragraph was not needed.

Further views were received in relation to own credit risk.  Some respondents thought that it was not appropriate to split out the fair value changes attributable to changes in own credit risk and recognise them instead in other comprehensive income.  Other views were in relation to disclosure where it was highlighted that the proposed amendments did not make reference to disclosure requirements, specifically those of IFRS 7 Financial Instruments: Disclosures.

The Staff noted that they thought that it was clear that an entity would be required to make the disclosures in IFRS 7 for financial instruments contingent consideration because the scope of financial instruments is for all types of financial instruments, with some exceptions of which contingent consideration is not one.

The majority of respondents agreed with the proposed transition provisions and effective date.  It was noted that, as currently worded, the amendments could be applied without IFRS 9 being applied and the Staff agreed to amend the wording of the transition and effective date paragraph to address this issue.  Some respondents wanted an earlier effective date.

The Staff recommended to the Interpretations Committee that:

  1. the wording in paragraph 58(b) of IFRS 3 should be amended to ensure that it does not imply that contingent consideration can only be a financial instrument
  2. held for trading contingent consideration (which includes derivatives) shall be subsequently measured at fair value through profit or loss. An entity should not be required to apply the fair value option for financial liabilities to held for trading contingent consideration
  3. that the amendment proposed in the ED to IFRS 9 paragraph 4.1.2 should be deleted
  4. the wording of the transition and effective date paragraph should be amended to address the issue in paragraph 100 (i.e. an entity cannot apply the amendments to IFRS 3 without applying IFRS 9).

No significant comments were received from the Committee members although a discussion was held as to splitting out the credit risk and recognising separately within OCI and the merits of this.

All of the Committee members tentatively agreed to the Staff recommendations.

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