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Business combinations under common control [IASB only]

Date recorded:

Follow up on the approaches being developed by the staff (Agenda Paper 23)

Background

The Board is examining how companies should account for combinations of businesses under common control (“BCUCC”), which are currently outside the scope of IFRS 3 Business Combinations. A Discussion Paper (DP) is expected in the first half of 2019.

In April 2018 and May 2018, the Board discussed three approaches being developed by the staff for BCUCC that affect non-controlling shareholders.

The purpose of this session is to provide an update on the approaches being developed by the staff and to give Board members an opportunity to provide further feedback and to ask questions.  It is an education session, which means that Board members are not being asked to make any decisions. No new ideas are being introduced this month and it therefore focuses on illustrating the ideas discussed previously under the following three approaches: Full Fair Value, Ceiling and Revised Ceiling approach.

This session serves as a reminder of the points being considered under the three approaches. The illustrated examples can be obtained via the agenda paper available here.

As a reminder, a summary of three approaches:

  • Full Fair Value: Uses fair values exchanged both to calculate goodwill and to identify any equity transaction
  • Ceiling: Uses IFRS 3 except for capping goodwill by reference to fair value received and identifying any equity transaction
  • Revised Ceiling: Uses IFRS 3 except for capping goodwill using the mechanics of IAS 36 Impairment of Assets and identifying any equity transaction

As previously outlined, the staff have considered three approaches when looking at the measurement bases and how a receiving entity reflect acquired assets and liabilities in BCUCC: historical cost, current value and predecessor carrying amounts.

The staff continue to think that a historical cost approach and a predecessor carrying amounts approach would not provide useful information about a BCUCC when non-controlling interests (NCI) are affected. In contrast, a current value approach would aim to reflect an exchange of equal value and would aim to reflect an overpayment as a distribution from equity and an underpayment as contribution to equity if unequal values are exchanged.

The paper then focuses its illustrations on the current value approach for BCUCC using: acquisition method (existing IFRS 3), Full Fair Value, Ceiling and Revised Ceiling for three scenarios: equal values are exchanged, higher value is given up and higher value is received (i.e. consideration is higher/less than fair value of assets and liabilities received).

The staff consider that the acquisition method and the Revised Ceiling approach provide useful information for a transaction when equal values are exchanged. Any combination synergies will be included within goodwill. They conclude that the Full Fair Value and Ceiling approaches would provide useful information about such transactions if the pricing does not reflect synergies; if it does, any portion of the consideration attributable to synergies will be shown as a distribution instead of being included in goodwill.

The Full Fair Value and Ceiling approaches both reflect overpayments as distributions. The acquisition method and the Revised Ceiling Approach will fail to reflect an overpayment on a timely basis and may fail to reflect it at all depending on how goodwill is allocated to cash-generating units (CGUs).

All approaches reflect a gain or a contribution when there is an obvious excess of the value received over the value given up. The Full Fair Value approach is most likely to capture contributions.

The staff conclude that the Full Fair Value and Ceiling approaches do not provide the most useful information for transactions when equal or near equal values are exchanged if pricing of the transaction reflects combination synergies; any portion of the consideration attributable to synergies will be shown as a distribution. The acquisition method and the Revised Ceiling approach would work for scenarios when pricing reflects synergies; those synergies will be included within goodwill. However, the latter two approaches would not reflect an overpayment as such.

Staff recommendation

The paper did not contain any recommendations by staff. Instead, the staff asked the Board for direction on which approach, or approaches, the staff should pursue for BCUCC that affect non-controlling shareholders. The staff propose exploring the Ceiling approach further as well as exploring whether the acquisition method as set out in IFRS 3 could be used as the basis for providing the most useful information about BCUCC that affect NCI.

Discussion

The Board and staff discussed the merits of the four approaches under the current value approach in order for the staff to seek direction on areas to explore further.

A number of Board members expressed the view that the best way forward is to stay as close to IFRS 3 as possible, both from the point of view of complexity and understandability, but that the Board needs to find a mechanism which addresses the overpayment and underpayment in BCUCC. In common control transactions, the price cannot be relied on in the same way as in a transaction with unrelated parties.

One Board member outlined that the Board can argue that existing standards already have a mechanism to deal with overpayments and underpayments. For example, when there is a gain from a bargain purchase IFRS 3 requires to recognise this gain in the P&L and when there is goodwill as a result of an overpayment, IFRS 3 requires testing for impairment.

Another Board member challenged whether the approach could be simplified further and whether there really is a difference between a conventional business combination and a BCUCC (although the latter is not done at arm’s length). The approach proposed to simplify is to use IFRS 3 as a basis and supplement with additional disclosures so investors can form their view as to whether there are overpayments or underpayments.

Some Board members were concerned with the Full Fair Value approach as it will introduce more uncertainty over measurement in the acquired business and can be a costly exercise.

Decision

The Board agreed to drop the Full Fair Value approach, but was split on dropping the Ceiling and Revised Ceiling Approach. All were in agreement that IFRS 3 should be used as a basis and to explore a number of overlays to providing the most useful information about BCUCC that affect NCI.  It was therefore agreed the staff will:

  • Consider the strengths and weaknesses of the Ceiling and Revised Ceiling Approach
  • Keep under consideration both a quantitative approach and a qualitative approach
  • Explore IFRS 3 as a basis with a number of varied options to be defined by the staff in the next discussion, such as:
    • IFRS 3 as it currently stands
    • IFRS 3 with disclosures on BCUCC affecting NCI
    • IFRS 3, but when there is a gain from a bargain purchase, to treat the gain as a contribution
    • IFRS 3, but when there is an overpayment, providing sufficient disclosure

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