IFRS 3 BUSINESS COMBINATION

Business - An integrated set of activities and assets that is capable of being conducted and managed for
the purpose of providing goods or services to customers, generating investment income (such as dividends
or interest) or generating other income from ordinary activities.

Business Combination - a transaction or other event in which an acquirer obtains control of one or more
businesses.

Determination of Control under IFRS 3

Under IFRS 10, control is defined as the power to govern the financial and operating policies of an entity so
as to obtain benefits from its activities.This involves assessing whether the acquirer has:

1. Power over the acquired entity(investee). Acquirer must have the ability to direct the relevant activities
of the acquired entity. This can be achieved through ownership of a controlling interest in the acquired entity,
voting rights, or other contractual arrangements that give the acquirer the ability to direct the activities of the
acquired entity.

2. Exposure to variable returns from its involvement with the acquired entity (investee). The acquirer
must have exposure to the risks and rewards associated with the activities of the acquired entity. This can
include exposure to changes in the fair value of the acquired entity’s assets or liabilities, or to changes in its
earnings or cash flows.

3. Ability to use its power over the acquired entity (investee) to affect the amount of the returns. The
acquirer must have the ability to use its power over the acquired entity to affect the amount of the returns it
derives from the business combination. This can include the ability to make decisions that affect the amount
or timing of the cash flows or earnings of the acquired entity.

Scope
IFRS 3 must be applied when accounting for business combinations, but does not apply to:
a. The formation of a joint venture
b. The acquisition of an asset or group of assets that is not a business, although general guidance is
provided on how such transactions should be accounted for
c. Combinations of entities or business under common control
d. Acquisitions by an investment entity of a subsidiary that is required to be measured at fair value through
profit or loss

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Method of accounting for business combinations

Acquisition Method
The acquisition method (purchase method) is used for all business combinations.

Steps in applying the acquisition methods are:

1. Identifying the ‘acquirer’
2. Determination of the ‘acquisition date’
3. Recognition and measurement of the identifiable assets acquired, the liabilities assumed and any
non-controlling interest (NCI, formerly called minority interest) in the acquiree
4. Recognition and measurement of goodwill or a gain from a bargain purchase.

Types of Acquisition

Stock Acquisition : In a stock acquisition, the acquiring company purchases the ownership interest in the
acquired company by acquiring its shares of stocks. The acquiring company becomes the new owner of the
acquired company’s assets and liabilities, and the acquired company continues to exist as a subsidiary of
the acquiring company.

Asset Acquisition : In an asset acquisition, the acquiring company purchases some or all of the acquired
company’s assets, but not its stock.

Merger : In a merger, two or more companies combine to form a new entity.

Goodwill is measured as the difference between:

a. the aggregate of (i) the value of the consideration transferred (generally at fair value), (ii) the amount of
any non-controlling interest (NCI, see below), 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
b. the net of the acquisition-date amounts of the identifiable assets acquired and the liabilities assumed

Goodwill = Consideration transferred + Amount of NCI + Fair value of previously held interest - Net assets
(acquiree)

Contingent Consideration is an amount that is only payable if certain future events occur, such as the
achievement of specific performance targets or the occurrence of certain future events.

Acquisition Costs
Cost of issuing debt or equity instruments are accounted for under IAS 32 Financial Instruments:
Presentation and IAS 39 Financial Instruments: Recognition and Measurement/IFRS 9 Financial
Instruments. All other costs associated with an acquisition must be expensed, including reimbursements to
the acquiree for bearing some of the acquisition costs.

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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.

Stock Issuance Cost

- SEC registration fee
- Documentary stamp tax
- Printing cost (stock certificate)
- Newspaper publication fee

Business combination achieved in stages (Step Acquisition)

In a step acquisition, the investor initially acquires a minority interest in the investee and subsequently
increases its ownership interest to a majority or controlling interest over time. The process typically involves
a series of transactions, such as purchase of additional shares or assets from the investee, or the exercise
of options or warrants that give the investor the right to acquire additional shares or assets.

Non-controlling Interest (NCI)

Non-controlling Interest (NCI) under IFRS 3 refers to the portion of the net assets of a subsidiary not held by
the parent company. The NCI is recognized at its fair value at the acquisition date, which represents the
proportionate share of the fair value of the acquiree’s identifiable net assets.

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Illustrative Case 1
ABC Company acquired the net assets of DEF Corporation on January 31, 2023, for P565,000 cash. In
addition, P5,000 professional fees were incurred and paid in consummating the combination. At the time of
acquisition, DEF Corporation reported the following book value and current fair value:

Book Value Fair Value

Cash and cash equivalent P 50,000 P 50,000
Inventory 100,000 150,000
Buildings and Equipment (net) 200,000 300,000
Patent 200,000
Total Assets Php350,000 Php700,000

Accounts Payable P 30,000 P 30,000

Common Stock 100,000
Additional Paid-In-Capital 80,000
Retained Earnings 140,000
Total Liabilities and Equity P 350,000

Requirement: Give the journal entry or entries recorded by ABC Company to record the acquisition of the
net assets of DEF Corporation.

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Illustrative Case 2
On January 1, 2023, Luzon Corporation issued 6,000 shares of its P10 par value common stock to acquire
the assets and liabilities of Minda Corporation. Luzon Corporation shares were trading at P90 on that date.
Carrying value and fair value data for Minda Corporation at the time of acquisition were as follows:
Book Value Fair Value
Cash and cash equivalent P 50,000 P 50,000
Inventory 120,000 200,000
Buildings and Equipment (net) 400,000 300,000
Less: Accumulated Depreciation (150,000)
Total Assets P420,000 P550,000

Accounts Payable P 50,000 P 50,000

Common Stock (P20 par) 200,000
Retained Earnings 170,000
Total Liabilities and Equity P 420,000

Luzon Corporation paid P25,000 for SEC registration and issuance of its new shares and paid professional
fees of P15,000.

Requirement: Record the journal entries for the acquisition in the books of Luzon Corporation.

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Investment in Subsidiary

Case 1 : Acquisition at Book Value

The acquisition of a subsidiary is said to be at book value when the consideration given (price paid) for the
investment in subsidiary was equal to the book value of interest acquired from the subsidiary (subsidiary’s
stockholders equity x parent company’s ownership interest)

For example, A Company acquired all of B Company’s outstanding common stock for P100,000 cash. B
Company’s Stockholders Equity is as follows:

Common Stock P50,000

APIC 30,000
Retained Earnings 20,000

On the date of acquisition what journal entry must A have in its own books to record the said acquisition?

Case 2 : Acquisition at More than Book Value

When the book value of the net assets of the subsidiary are equal to their respective values, and the
consideration given (price paid) is more than the book value of interest from the subsidiary, the excess is
treated as goodwill.

Using the same illustration given in the previous example, except that instead of P100,000 as consideration,
A Company acquired 100% of B Company’s stock for P110,000.

On the date of acquisition what journal entry must A have in its own books to record the said acquisition?

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Case 3 : Acquisition at Less than Book Value
A bargain purchase exists when the price is less than the fair value of the subsidiary’s net identifiable assets.
The excess is treated as gain on acquisition. To illustrate, let us assume that A Company paid only P80,000
for the 100% interest in the stockholder’s equity of B Company.

On the date of acquisition what journal entry must A have in its own books to record the said acquisition?

Consolidated Balance Sheet - Date of Acquisition

The July 1, 2022 statement of financial position of Star Company at book value and fair values are as
follows:

Book Value Fair Value

Current assets P240,000 P280,000
Land 20,000 100,000
Building and equipment (net) 400,000 270,000
Patents 10,000 30,000
Total Assets P670,000 P680,000

Liabilities P250,000 P250,000

Common Stock 100,000
Retained Earnings 320,000 430,000
Total Liabilities and equity P670,000 P680,000

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On July 1, 2022 Moon Company purchased all of Star Company’s stock for P600,000.

Requirement:
1. Prepare journal entry on the books of Moon Company to record the stock acquisition
2. Prepare the working paper elimination entries

II. Pipe Company purchased 100 percent of the common stock of Sucat Company by issuing 20,000 shares
with a P5 par value common stock. The market value of the stock issued on the date of combination,
January 1, 2022 was P6 per share. Summarized statement of financial position at December 31, 2021 are
as follows:

Pipe Sucat
Current Asset P375,000 P100,000
Property plant and equipment 270,000 75,000
Less: Accumulated depreciation (70,000) (15,000)
Other Assets 30,000 40,000
Total Assets P605,000 P200,000

Current Liabilities P220,000 P60,000

Mortgage Payable 60,000 25,000
Common stock 100,000 35,000
APIC 45,000 -0-
Retained Earnings 180,000 80,000
Total Liabilities and Equity P675,000 P200,000

On the date of combination, Sucat property plant and equipment had a fair value of P85,000. The
book value of all other assets approximated fair value.

Requirement: Prepare a consolidated statement of financial position immediately following the

acquisition.

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III. The following are condensed Statement of Financial Position of Retina and Gatsby on January 1, 2022.

Retina Gatsby

Total Assets Php 10,000,000 Php 3,300,000

Liabilities Php 2,700,000 Php 800,000

Ordinary shares 3,100,000 1,387,500

Share premium 1,250,000 250,000

Retained Earnings 2,950,000 862,500

Wyebot Inc acquired the net assets of Retina and Gatsby. Paying cash in the amount of P200,000 and by
issuing 190,000 shares to Retina. Paying cash in the amount of P75,000 and by issuing 53,000 shares to
Gatsby. The par value of these shares is P25/share and market value as of January 1, 2022 is P45/share.
Wyebot also incurred the following unpaid expenses:

Retina Gatsby
Indirect cost Php 85,000 P102,000
Finders Fee 68,000 35,000
SEC Registration 350,000 362,500
Printing cost of stock certificate 125,000 93,750

Wyebot Inc’s Retained Earnings has a balance of P10,500,000 on January 1, 2022 before the acquisition.
As a result of the merger, compute for the following:

a. Goodwill
b. Gain on Bargain Purchase
c. Net increase or decrease in Retained Earnings of Wyebot Inc
d. Net increase or decrease in the Stockholders Equity of Wyebot Inc
e. Net increase or decrease in the Total Asset of Wyebot Inc

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IV. The Statement of Financial Position of Grow Company on June 30, 2021 presented below

Current Asset Php 190,000

Land 1,360,000

Building 720,000

Equipment 500,000

Total Asset Php 2,770,000

Liabilities Php 560,000

Ordinary Shares, P5 par 1,000,000

Share Premium 760,000

Retained Earnings 450,000

Total equities Php 2,770,000

All assets and liabilities of Grow Company assumed to approximate their fair value except for land and
building. It is estimated that land has a fair value of P2,000,000 and the fair value of the building increased
by P300,000. Glow Corporation acquired 80% of Grow Company’s outstanding shares for P3,150,000. The
non controlling interest is measured at fair value.

1. Assuming the consideration paid includes a control premium of P420,000 , how much is the goodwill/(gain
on acquisition) on the consolidated financial statements?

2. Assuming the consideration paid excludes control premium of P138,000 and the fair value of the non
controlling interest is P600,000, how much is the goodwill/(gain on acquisition) on the consolidated financial
statements? Assuming further, if no fair value is given. How much is the goodwill/(gain on acquisition) on the
consolidated financial statements?

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V. Entity X acquired the net assets of Entity Y by issuing 10,000 ordinary shares with par value of P10 and
bonds payable with face amount of P500,000. The bonds are classified as financial liability at amortized
cost.

At the time of acquisition, the ordinary shares are publicly quoted at P20 per share. On the other hand, the
bonds payable, classified as financial liability at amortized cost, are trading at 110.

Entity X paid P10,000 share issuance cost and P20,000 bond issue costs. Entity X also paid P40,000
acquisition related costs and P30,000 indirect costs of business combination.

Before the date of acquisition, Entity X and Entity Y reported the following data:

Entity X Entity Y

Current assets 1,000,000 500,000

Noncurrent assets 2,000,000 1,000,000
Current liabilities 200,000 400,000
Noncurrent liabilities 300,000 500,000
Ordinary shares 500,000 200,000
Share premium 1,200,000 300,000
Retained earnings 800,000 100,000

At the time of acquisition, the current assets of X have fair value of P1,200,000 while the noncurrent assets
of Y have fair value of P1,300,000. On the same date, the current liabilities of Y have fair value of P600,000
while the noncurrent liabilities of X have fair value of P500,000.

1. What is the goodwill or gain on bargain purchase arising from business combination?
2. What total amount should be expensed as incurred at the time of business combination?
3. What is Entity’s X amount of total assets after the business combination?
4. What is Entity’s X amount of total liabilities after the business combination?

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VI. Izzie Company’s stockholders equity as of December 31, 2021 is P6,890,000. On January 1, 2022 Izzie
acquired 30% of Alex Company’s ordinary shares for P600,000 cash and by issuing its own shares with a
fair value of P1,500,000. Clark acquired significant influence over Rome as a result of the stock acquisition.
After five months, Izzie purchases another 60% of Alex ordinary shares for a cash payment of P 4,920,000.
On this date, Alex reports identifiable assets with a carrying value of P6,480,000 and fair value of
P12,000,000 and liabilities with a book value and fair value of P3,620,000.

At the acquisition date, net loss reported by Alex for the five month ended amounted to P720,000. The fair
value of 10% noncontrolling interest is P1,296,000. Non controlling interest is valued using the proportionate
share basis. Clark also paid the following: 95,000 for legal fees, P70,000 for finder’s fees, P65,400 for
accountants fee, P58,000 for audit fee for SEC registration of stock issued and P22,800 for printing of stock
certificates.

Immediately after the business combination, how much is the consolidated total equity?

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VII. B Co. merged into C Co on June 30, 2022. In exchange for the net assets at fair value of B Co
amounting to P2,785,800, C Co. issued 68,000 ordinary shares at P36 par value, with a market value of P41
per share. Relevant data on ordinary shareholder’s equity immediately before the combination show
C Co B. Co

Share Capital 8,790,000 2,030,000

Share Premium 3,834,000 782,000
Retained Earnings (Deficit) (1,516,000) 495,000

The following expenses were incurred and paid:

Legal fees for the contract of business combination 174,700

Audit fee for SEC registration of stock issue 198,400
Printing costs of stock certificates 144,900
Brokers fee 135,000
Accountants fee 161,000
Other direct cost of acquisition 90,400
General and allocated expenses 115,300
Listing fees in issuing new shares 172,000

* Included as part of the acquisition agreement is the additional cash consideration of P163,000 in the event
C Co share price will reach P32 per share by year-end

* At acquisition date, the share price was P27.5 and increased by P4.8 BY December 31, 2022.

* At acquisition date, there was only a low probability of reaching a target share price, so the fair value of the
additional consideration was determined at P74,000

What is the amount of expense to be recognized in the statement of comprehensive income for the year
ended December 31, 2022?

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Multiple Choice

1. Lion Company pays 10 million for all outstanding shares of Tiger Company. On the date of the purchase,
Tiger company has net identifiable assets with a book value of 8 million and a fair value of 8.5 million. Which
of the following statements is true?

a. Goodwill of 2 million should be reported for consolidation purposes and amortized over a period of time
b. Goodwill of 2 million should be reported for consolidation purposes and tested annually for impairment
c. Goodwill of 1.5 million should be reported for consolidation purposes and amortized over a period of time
d. Goodwill of 1.5 million should be reported for consolidation purposes and tested annually for impairment

2. Herring Company buys 100% of the outstanding shares of Catfish Company during Year 1. On a
consolidated balance sheet produced immediately after the sale, goodwill of 250,000 is reported. How was
this goodwill determined?

a. It was on the balance sheet of Catfish before the acquisition took place
b. The specific components that determine goodwill are separately identified and calculated
c. It is a figure calculated by a reasonable estimate of future cash flows from Catfish
d. It is the fair value of consideration given up by Herring less the fair value of all identifiable assets and
liabilities owned by Catfish

3. Diego Company buys all outstanding assets and liabilities of Francisco Company on January 1, 2022, by
giving up consideration of 3.5 million. On that date, Francisco's net assets have a book value of 3 million and
a fair value of 3.7 million. Which of the following statements is true?

a. A bargain purchase of 200,000 has occurred and will be reported immediately as a gain for consolidation
purposes
b. A bargain purchase of 200,000 has occurred and will be used to reduce the value of Francisco's long-term
assets for consolidation purposes
c. Goodwill of 500,000 should be recognized and amortized
d. Goodwill of 500,000 should be recorded and tested annually for impairment

4. On January 1, 2022, Parent Company acquired 15% of Son Company for 300,000. Parent has the ability
to assert significant influence over Son and does not elect the fair value method. During the year, Son
reported net income of 160,000 and paid cash dividends of 25,000. What is the book value of Parent's
investment in Son at the end of year?

a. 327,750
b. 324,000
c. 320,250
d. 300,000

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5. ABC Inc is currently using the equity method to account for its 25% investment in DEF Inc. In the
acquisition last year of DEF stock, ABC calculated 750,000 of goodwill. The correct accounting for this
goodwill during the current year is:

a. Amortization over the anticipated holding period of the DEF stock

b. Test for impairment at year end
c. No accounting necessary
d. Amortization over 50 years

6. The valuation of goodwill is a calculation in a business calculation:

a. Of all of the unlimited life intangible asset

b. To offset the bargain purchase cost
c. Of the residual paid above the fair value of the identifiable net assets
d. Of all of the increases in market valuation of the intangible assets acquired

7. IFRS 3 defines it as a transaction or other event in which an acquirer obtains control of one or more
businesses.
a. Business combination
b. Consolidation
c. Merger
d. Acquisition of net assets

8. Under IFRS 3, how shall an entity (acquirer) account for each business combination?
a. Pooling of interest method
b. Proportionate consolidation method
c. Acquisition method
d. Equity method

9. It refers to the date on which the acquirer obtains control of the acquiree.
a. Business combination date
b. Acquisition date
c. Control date
d. Consolidation date

10. For each business combination, the acquirer shall measure at the acquisition date components of
noncontrolling interest (NCI) in the acquiree that are present ownership interests and entitle their holders to
a proportionate share of the entity’s net assets in the event of liquidation at either
a. Fair value
b. The present ownership instruments proportionate share in the recognized amount of the acquiree’s
identifiable net assets.
c. Either A or B
d. Neither A or B

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