Cover paper (Agenda Paper 23)

In previous meetings, the Board tentatively decided that a current value approach based on the acquisition method set out in IFRS 3 should be applied to transactions that affect non-controlling shareholders of the receiving entity––subject to an exception and an exemption. In this meeting, the staff asked the Board to decide if applying a current value approach to Business Combinations under Common Control (BCUCC), the receiving entity should identify and recognise a distribution or contribution in its financial statements.

Applying a current value approach to BCUCC (Agenda Paper 23A)

Staff analysis

This paper discussed whether, in applying a current value approach based on the acquisition method, the receiving entity should be required to identify and recognise any distribution or contribution in its financial statements. The staff will present a paper at a future meeting that considers disclosure requirements for transactions within the scope of the project, including those reported applying a current value approach based on the acquisition method.

As a BCUCC might be directed by a controlling party, the consideration transferred may not necessarily reflect the fair value of the acquired business and synergies expected as a result of the combination. Furthermore, a BCUCC may be undertaken in order to benefit other entities within the group rather than the receiving entity. In those circumstances, a difference between the fair value of the consideration transferred and the fair value of (a) the acquired business and (b) the economic benefits embedded in expected synergies is an equity transaction—a transaction with owners in their capacity as owners—in addition to the acquisition of a business. Applying IAS 1, transactions with owners in their capacity as owners should be reported in the statement of changes in equity. A decrease in equity represents a distribution to the controlling party and causes a transfer of wealth from the non-controlling shareholders. An increase in equity represents a contribution by the controlling party and causes a transfer of wealth to the non-controlling shareholders. The question arises whether, and if so how, a receiving entity should be required to identify, measure and recognise any such distribution or contribution.

IFRS 3 does not contain requirements on how any overpayment in a business combination could be identified and measured. Accordingly, if the Board were to require recognition of a distribution, the distribution would need to be measured. The staff have identified two approaches to measuring a distribution:

• a) as the excess of the fair value of the consideration transferred over the fair value of the acquired business (previously referred to as the ceiling approach); or
• b) by applying the requirements on testing goodwill for impairment in IAS 36 (previously referred to as the revised ceiling approach).

If the ceiling approach is applied, goodwill is measured as the excess of the fair value of the consideration transferred over the fair value of the acquired identifiable net assets but is capped at the fair value of the acquired business. A distribution is measured as the excess of the fair value of the consideration transferred over the fair value of the acquired business. Accordingly, if the Board were to pursue this approach, the receiving entity would be required to measure the fair value of a business.

The staff think that in principle, if a distribution takes place in a BCUCC, reporting such a distribution would provide relevant information to the primary users of the receiving entity’s financial statements, in particular to the non-controlling shareholders affected by the transaction. In addition, it would also reflect the substance of the transaction. The staff note that IFRS 3 already requires that in applying the acquisition method, any amounts that are not part of the exchange should be identified and accounted for in accordance with the relevant IFRS Standard. Moreover applying IAS 1 transactions with owners in their capacity as owners should be reported in statement of changes in equity.

Staff recommendation

The staff recommended that the current value approach for all such transactions should be the acquisition method as set out in IFRS 3, except that the receiving entity should recognise any excess fair value of the acquired identifiable net assets over the consideration transferred as an increase in the receiving entity’s equity (contribution), not as a gain on a bargain purchase in profit or loss.

Board discussion

All the Board members who spoke were in agreement with the staff recommendation that the Board should not require entities to identify, measure and recognise a distribution in a business combination under common control reported applying a current value approach. More than one Board member commented that they liked the simplicity of using IFRS 3 and couldn’t see any benefits of doing anything more granular, which would be challenging and costly. The Board voted and all 14 members agreed with this staff recommendation.

However, there were more discussions and reservations around the second staff recommendation on whether the receiving entity in a BCUCC reported applying a current value approach should recognise any excess fair value of the acquired identifiable net assets over the consideration transferred as an increase in the receiving entity’s equity (contribution), not as a gain on a bargain purchase in profit or loss. Most of these questions centred around how easy it was to identify any over or underpayment, the impact on disclosures and what the users would be able to determine from the disclosures in the accounts. One member outlined that IFRS 3 already includes an exception for preparers to think about whether there are any other transactions embedded in the acquisition, so felt it was important to enhance disclosures for these type of transactions.

One member outlined it would be helpful if the staff consulted on this proposal and get public feedback to understand whether it is more likely occurrence of an over/underpayment in BCUCC and whether they agree with the proposed approach of dealing with it. The Board voted on this second recommendation and 11 members agreed with the staff recommendation.

The staff highlighted at the next meeting they will look further at the predecessor approach and cover the disclosure of both the current value approach and the predecessor approach.