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IND-AS: Merger, Acquisitions & Amalgamations

Published on Tue, Apr 28,2015 | 19:51, Updated at Tue, Apr 28 at 19:51Source : 

By Sandip Khetan & Jigar Parikh, Partners with India member firm of EY Global

Accounting for business combinations will fundamentally change for those Indian businesses looking to grow by acquiring companies in future. As of now accounting for such transactions was driven under multiple accounting guidance which included Accounting for mergers and amalgamations as covered under Accounting Standard (AS) 14 or through the process of consolidation as covered under AS 21 or through accounting of the same as an acquisition of an asset group as covered under AS 10. IND-AS will bring in the uniformity in accounting for all business combination in future. Further in an acquisition where non-controlling shareholders (NCI) will continue to be present, the rights given to NCI under the shareholders agreement will significantly determine the manner of acquisition accounting in future. In this article, we present top10 IND-AS impacts on business combination accounting which companies should be mindful off in a transaction lifecycle.

1.  Definition of ‘Business’

Current Indian GAAP does not provide definition of term “business”. Accounting Standard 10 Fixed Assets only specifies treatment of goodwill in case of acquisition of business. In absence of any specific guidance, there was lot of diversity in practice in interpretation of term “business”.  

IND-AS 103 provides definition of a business. It defines business as “An integrated set of activities and assets that is capable of being conducted and managed for the purpose of providing a return in the form of dividends, lower costs or other economic benefits directly to investors or other owners, members or participants”  

Going forward, Companies should evaluate whether transaction will meet the definition of business or not. for example if a real estate company has acquired a land holding company for a significant premium then the difference between the amount of investment and the paid up capital of the acquired company is currently treated as goodwill in the consolidated financial statements which in future will be allocated to the costs of the land and thus will increase the costs of the project and will negatively impact the profitability of the Company in the consolidated financial statements.

2.  Recording of  Assets and Liabilities at Fair Value

IND-AS 103 requires mandatory use of purchase method of accounting for business combination except for common control transaction. It also mandates recording of all assets acquired and liabilities assumed to be recorded at fair value.  Many intangibles assets which were originally subsumed under goodwill under current Indian GAAP; will now be reflected on the balance sheet – for e.g. in process research, customer relationship, brands etc. This is likely to increase the depreciation and amortisation charge in the merged or consolidated balance sheets and thus will impact the earnings per share of the company.  It is interesting to know that contingent liabilities which are usually not reflected on balance sheet will also get fair valued and recorded in the balance sheet at fair value. Further purchase price allocation will be time consuming affair and will entail use of experts in many cases. Companies should factor time taken to get the purchase price allocation done in their acquisition time table.

3.  Prohibition on Pooling of Interest Method

IND-AS 103 prohibits use of pooling of interest method for business combination. Pooling method is permitted only for common control transactions. Common control means same party remains in control both before and after the transaction. This is a big change and is likely to impact acquisition strategies of various companies. Though the taxation laws are not changing, accounting can possibly impact the MAT liability as well as the impact on the combined earnings of several companies. It is most likely that the High courts will only approve merger schemes in future which are in compliance with the relevant accounting standards as applicable to the Company.  

4.  Acquisition in Stages

An investment in a subsidiary is often acquired in stages – both in the lead-up to gaining control and after control has been obtained. The old approach to accounting for the acquisition of a subsidiary in stages was a cost accumulation methodology. In contrast, the revised standard aims to fair value all of the elements of the business combination transaction at the date of acquisition which is defined by the date on which the Company has acquired control over other enterprise. Further this also results in recognition of the gain or loss on the existing carrying value of the investment in the acquired enterprise at the point of gaining control.  

Some step purchases after acquiring control can have a negative impact on consolidated equity. Where an additional interest in an existing subsidiary is acquired, i.e., an acquisition of a non- controlling interest (NCI), the revised standards treat this as an equity transaction. Any difference between the consideration paid and the reduction in the NCI is charged directly against the parent’s equity. Previously, an entity that adopted the parent entity extension method would record this difference as additional goodwill. These reductions will have a flow-on impact for gearing ratios, returns on equity and other measures based on equity.  

5.  Earn-out Arrangements

Many business acquisitions contain both an upfront payment and the potential for additional payments to be made in the future. Such payments are generally conditional on specific events, and are also often referred to as ‘earn-outs’. The accounting for earn-out arrangements is dependent on:

• Whether or not it is classified as remuneration or contingent consideration; and

• The manner of settlement.

Under current Indian GAAP, there is no specific guidance for such payments. Many companies used to adjust such payments against goodwill.  Companies should carefully understand the implications of earn-out arrangements on their KPIs – It will be myth to consider that such impact will be adjusted against goodwill and will not impact profit or reserves.  

6.  Accounting for Transaction Costs

An acquirer often incurs acquisition-related costs such as costs for the services of lawyers, investment bankers, accountants, valuation experts, and other third parties. As such costs are not part of the fair value exchange between the buyer and the seller for the acquired business, they are accounted for as a separate transaction in which payments are made in exchange for services received, and will generally be expensed in the period in which the services are received. This is a significant difference from current practice in which such costs are included in the cost of the combination, and are therefore included in the calculation of goodwill. Results reported for the period of any acquisition will now be affected. It must also be remembered that this must be included as part of operating cost.

7.  Acquisition Accounting – Start Point

Under Indian GAAP, appointed date is considered as a date from which control is deemed to be obtained even though scheme becomes effective on approval of the High Court is much later than the appointed date. In many schemes, companies have set appointed date which is even earlier than the date when they would have acquired the investment – this is case especially in the merger schemes. In such a scenario, goodwill was determined based on values of assets and liabilities on the appointed date and all movements in values of assets and liabilities post appointed date was regarded as post acquisition transaction.

Under IND-AS 103, this practice is likely to be challenged. IND-AS 103 requires accounting for acquisition from the date when entity obtains control – considering the importance of High Court approval it is likely that control will be assessed to be obtained only when High Court approves the scheme.  This will mean that acquisition accounting will be done on the date when entity obtains control i.e. when High Court approval is obtained.  Net assets will be recorded at the fair value on the date when High Court approval is obtained. Companies should take care that scheme is drafted carefully not to create conflict with the requirements of IND-AS 103. Hence results between appointed date and effective date will not be reflected in the acquirer’s financial statement.

8.  Calls and Put Options over Non-controlling Interests

In some business combinations where less than 100% of the equity shares are acquired, it may be that the transaction also involves options over some or all of the outstanding shares held by the non-controlling shareholders. The acquirer may have a call option, i.e. a right to acquire the outstanding shares at a future date for cash at a particular price. Alternatively, it may have granted a put option to the other shareholders whereby they have the right to sell their shares to the acquirer at a future date for cash at a particular price. In some cases, there may be a combination of call and put options, the terms of which may be equivalent or may be different. IND AS 103 does not provide specific guidance. Accounting will depend on specific facts and circumstances and application of various IND AS– for example, if there is call option with fixed exercise price and option holder having present access to ownership benefits then it may be regarded that acquirer has already obtained those shares and will not reflect any non-controlling interest. Accordingly an obligation will be required to be recorded for such planned future payouts and thus will impact the gearing ratios of the Company.

9.  Accounting for Goodwill

Under Indian GAAP, there was diversity in practice with respect to goodwill accounting. Goodwill arising in amalgamation was required to be amortised whereas it was accounting policy choice in case of business acquisition or acquisition of subsidiary. In IND-AS, goodwill is not allowed to be amortised. It is always tested for impairment.  On one hand, it will save amortisation charge but at the same time it will expose entity to volatility on account of impairment hit. One other major change which company’s should be mindful is with respect to impairment testing. Under Indian GAAP, goodwill impairment testing was done only if there were impairment indicators. Under IND-AS, goodwill impairment testing is mandatory atleast once in a year irrespective of whether there are impairment indicators or not.  

10.  Disclosures

Business combination disclosures are enhanced significantly in IND-AS as compared to Indian GAAP. Following are some key disclosures which are required under IND AS 103:

·         the acquisition-date fair value of the total consideration transferred and the acquisition-date fair value of each major class of consideration

·         the total amount of goodwill that is expected to be deductible for tax purposes;

·         the amount of the non-controlling interest in the acquire (target) recognised at the acquisition date and the measurement basis for that amount; and  for each non-controlling interest in an acquire (target) measured at fair value, the valuation techniques and significant inputs used to measure that value;

·         the amounts of revenue and profit or loss of the acquire (target) since the acquisition date included in the consolidated statement of comprehensive income for the reporting period; and the revenue and profit or loss of the combined entity for the current reporting period as though the acquisition date for all business combinations that occurred during the year had been as of the beginning of the annual reporting period.

Since reporting timelines are very stiff especially for listed companies, Companies should consider organisation readiness to furnish all relevant disclosures required by IND AS 103. Compliance with disclosure requirements have become lot more onerous since fair value accounting is mandatory for business combination. Completion of purchase price allocation exercise and obtaining an expert sign off is critical action in financial statement close process time table in the year of acquisition.

Concluding Remarks

IND-AS 103 will have significant bearing on stages of acquisition – planning the deal, execution of deal and post-acquisition. It is critical that organisations consider IND-AS accounting implications in each of the acquisition phases to avoid any accounting hurdle subsequently. Organisations should sensitise all departments – legal, tax, Mergers & acquisition team and other relevant stakeholders about nuances of IND-AS so that they are mindful of accounting issues and involve relevant experts in each phase of transaction.


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