Common application issues of HKFRS 3 ...
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Common application issues of HKFRS 3 Business Combinations www.pwchk.com 11 June 2021
Transcript of Common application issues of HKFRS 3 ...
Common application issues of HKFRS 3 Business Combinations
www.pwchk.com
11 June 2021
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Overall recap of HKFRS 3 and its amendment
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Definition of a Business
Identifying the Acquirer
Determining the Acquisition Date
Identifying Separate Transaction,
Recognising and measuring
Consideration Transferred
Recognising and measuring Assets and
Liabilities
Recognising and measuring Non-
controlling Interest
Subsequent measurement and
accountingDisclosure Latest Development
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Agenda
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I. Business or asset?Identifying the
AcquirerDetermining the Acquisition Date
II. Part of BC or separate transaction?
III. Fair value or not?Recognising and measuring Non-
controlling Interest
Subsequent measurement and
accountingDisclosure IV. What is Next?
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I. Business or asset?
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What is Business Combination?
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AcquirerAcquiree(Business)
Control
Introduction of new assessments on business VS asset deal- Concentration test (single asset or group of similar assets)
- Substantive assessment (process)
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Concentration test
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Fair value of consideration
Fair value of liabilities assumed
Non-controlling
interest
Previously held interest
- Goodwill resulting from the effects of deferred tax liabilities
- Deferred tax assets- Cash and cash
equivalents
Fair value of gross assets acquired in
Business Combinations Fair value of
Gross Assetsconsidered in
concentration test
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Concentration test (Continued)
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Is it a single identifiable asset? a
group of similar identifiable assets?
Nature and risk associated
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Risk factors to be considered
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Real estate
Geographic location
Class of customers
Market risk
Size of the properties
Types of assets
Development stage
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Common differences in accounting between a business combination and an asset acquisition
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Measurement of assets and liabilities
Goodwill/Bargain purchase
Contingent liabilities
Transaction costs
Deferred tax
Contingent consideration
Non-controlling
interest
Previously held non-controlling
interest
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Hot topics on asset acquisitionObtaining control over a previously held joint operation which is not a business
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Should we remeasure the previously held
interest?
Group of assets(Joint operation)
Joint investor
Joint investor
Control passed…A. Yes
B. No
C. Policy choice
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Hot topics on asset acquisition (Continued)Step acquisition of a corporate wrapper
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Should we remeasure the previously held
interest?
Group of assets
Joint investor
Joint investor
Control passed…
Corporate Wrapper
(Joint Venture)
A. Yes
B. No
C. Policy choice
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Hot topics on asset acquisition (Continued)Accounting for NCI on an asset acquisition
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Corporate Wrapper
Holding company
NCI
Should we account for NCI?
Post-implementation Review of IFRS 10, IFRS 11 and IFRS 12
A. Yes
B. No
C. Seek for guidance from the IASB to fill the gap
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Hot topics on asset acquisition (Continued)Selling a corporate wrapper in the real estate industry
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HKFRS 15
HKFRS 10
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II. Part of business combination or separate transaction?
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What is part of business combination?
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Buyer Seller
Exchange for business
Business(assets, liabilities, non-
controlling interest)
Consideration
Part of Business Combination
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What are indicators for separate transactions?
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The reasons for the transaction
Who initiated the transaction
The timing of the transaction
)“…, where it has been entered into by or on behalf of the buyer or for the benefit of the buyer or the combined entity.”
A transaction is more likely to be a separate transaction
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Pre-existing relationships
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Settlement of relationship
At FV Lower of:
Favourable/ unfavourable element
Settlement provision in contract
Contractual relationship
No Yes
1 2
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Pre-existing relationships (Continued)Example… Law suit provision
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Background
• Entity A is a defendant in the lawsuit against Entity B. Litigation provision in Entity A’s books is C3 million.
• Entity A pays C50 million to acquire Entity B (business)
• Fair value of the law suit is C5 million.
• Fair value of B’s net assets is C40 million.
What would the accounting look
like?
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Pre-existing relationships (Continued)Example…Law suit provision (Continued)
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Consideration C50 m
Settle legal case C5 m
Acquire business
C45 m
Provision C3 m
Loss on settlement C2 m
FV of net assets C40 m
Goodwill C5 m
Dr Provision 3 m
Dr Loss 2 m
Cr Cash 5 m
Dr Net Assets 40 m
Dr Goodwill 5 m
Cr Cash 45 m
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Pre-existing relationships (Continued)Example…Re-acquired franchise
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Background
• Entity C acquires Entity D at cash of C10 million.
• Entity C had earlier granted a 10-year franchise to Entity D at full payment of C2.5 million. The contract price of the franchise allocated to the remaining 6-year franchise was C1.5 million.
• The contract allows either party to terminate the franchise at settlement provision of C1.8 million.
• Under current economic conditions and at current prices, Entity C could grant a 6-year franchise for a price of C3.5 million.
How Entity C accounts for
the settlement of franchise
arrangement?
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Lower of
Pre-existing relationships (Continued)Example…Re-acquired franchise (Continued)
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Consideration C10 m
Unfavourable element
C3.5 m – C1.5m = C2 m
Acquire business C8.2 m
Settlement provision
C1.8 m
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Contingent consideration or employee compensation?
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Continuing employment
Remuneration level
Higher payment to employees
% of shares held by
employees
Consideration vs. value of the
business
Other agreements
Formula to calculate payment
Duration of continuing
employment
Employee compensation
vs. Cost of
consideration
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Stay bonus arrangement
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Background
• Entity A acquired Entity B.
• The seller agreed to pay Entity B’s CEO a cash bonus of C1.5million if the CEO remains employed for at least one year.
• No such bonus payment in Entity B’s employee contract before the acquisition.
• Entity A reimbursed C1.5 million to the seller.
Is C1.5 million part of the
consideration?
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Stay bonus arrangement
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Background
• Entity A acquired Entity B.
• The seller agreed to pay Entity B’s CEO a cash bonus of C1.5million if the CEO remains employed for at least one year.
• No such bonus payment in Entity B’s employee contract before the acquisition.
• Entity A reimbursed C1.5 million to the seller.
Is C1.5 million part of the
consideration? No!
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Decision tree for allocating consideration
Identify separate transactions
• Pre-existing relationship; • Employee compensation; or
• Share-based payment?
Follow application guidance in HKFRS 3
para B52-B62
Other transactions
NoYes
Identify amount not part of BC and account for in accordance
with the relevant HKFRSs[HKFRS 3 para 51]
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Illustration – Acquire a retail business withlicensing trademarks at nil consideration
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Remaining consideration >
FV of net identifiable assets
FV of net identifiable assets
(C9M) > Remaining
consideration (C8M)
Residual as goodwill
Allocate discount proportionally to
FV of the business (C9M) and separate transaction (C2M)
[HKFRS 3para 2(b)]
Other transaction(Licensing trademark from
the seller for 3 years )
Account for in accordance with the
relevant HKFRSs[HKFRS 3 para 51]
Allocate a portion of consideration paid for licensing at fair
value (C2M)
Entity A acquires retail business from Entity B
and a separate licence at a consideration of C10M…
C2M
C9M
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Write a put option for NCI
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Provide NCI with the right to force the parent to purchase the shares, in accordance with terms and conditions
Do not forget to recognise for put
option liability
May be issued at the time that parent acquire the controlling interest or at some later date
Exercise price may be a fixed
price, fair value or a formula
May accompany with a purchased
call option on exactly the same
term as the put
May be in the form of a forward
purchase contract with no ability for
either party to avoid the transaction
Key features…
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III. Fair value or not?
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Which assets and liabilities are not measured at FV?
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Employee benefits
Indemnification asset
Share-based payment
Contingent liabilities
Trade and other payables
Trade and other receivables Deferred tax
Assets held for sale
Inventories
Intangible assets
Property, plant and equipment
Bank borrowings
Leases (acquiree as lessee)
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Which assets and liabilities are not measured at FV? (Continued)
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Employee benefits
Indemnification asset
Share-based payment
Contingent liabilities
Trade and other payables
Trade and other receivables Deferred tax
Assets held for sale
Intangible assets
Property, plant and equipment
Bank borrowings
Inventories
Leases (acquiree as lessee)
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Additional assets and liabilities may be recognised in the consolidated financial statements
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Typical examples
Typical examples include:
• Certain identifiable intangible assets
• Deferred tax
• Contingent liabilities
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Accounting for leases in which the acquiree is the lessee
Background
• An acquired entity leases its head office
• Rent for the next 5 years is fixed at C120K which is in excess of the rents payable on leases of comparable buildings at C100K at the time of the acquisition
• Assume 0% discount rate for simplicity
How should the acquirer recognise the right-of-use asset and lease liability?
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Acquirer recognises the acquired lease liability AS IF the lease contract was A NEW LEASE at the acquisition date.
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Accounting for leases in which the acquiree is the lessee (Continued)
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Adjustment not
remeasured subsequently
Adjusted for unfavourable
terms
•As if a new lease
Reduce purchase
consideration
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Accounting for an indemnification asset
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Acquirer A Seller S
Acquiree B
FV of contingent liabilitiesC7 million
Reimburse up to C10 million
Indemnification asset
C7 million
RecognitionDepends on recognition of indemnified item
MeasurementMeasured on the same basis as indemnified item
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IV. What is next?
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BCUCC project
In November 2020, the International Accounting Standards Board (Board) published the Discussion Paper Business Combinations under Common Control…
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BCUCC project (Continued)
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Summary of the Board’s preliminary views…
To determine the accounting method- Are the receiving company’s shares traded in a public market? - Does the receiving company have non-related party NCI who
disagree to use book value method?
Book value method
Acquisition method
Consideration > FV of identified net assets
Goodwill
Consideration < FV of identified net assets
Contribution
No for both
Yes for either
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BCUCC project (Continued)
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Comment letter period is open until 1 September 2021!
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Q&A
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Thank you
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