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IND-AS: 1st Time Adoption For Business Combinations

Published on Mon, Aug 31,2015 | 19:10, Updated at Mon, Aug 31 at 19:10Source : 

By: Santosh Maller & Navneet Mehta, Senior Professionals in Indian member firm of EY Global

Accounting for business combinations under Ind-AS is significantly different from that required under Indian GAAP. Retrospective application of Ind-AS 103 Business combinations to past business combinations may not be practical in all cases. Consider that an Indian company acquired a subsidiary almost 12 years back. Under Indian GAAP, as required by AS 21 Consolidated Financial Statements, the company recognized assets and liabilities of the subsidiary at book values. To apply Ind-AS 103 retrospectively, the acquirer would need to go back in the history and determine acquisition date fair values of assets and liabilities of the subsidiary. Considering the long-period of time, this may be impractical.

Against this background, besides deemed cost exemption for property, plant and equipment the business combinations exemption in Ind-AS 101 First Time Adoption of Indian Accounting Standards is probably the most significant exemptions. It provides a first-time adopter an exemption from restating business combinations prior to its date of transition to Ind-AS.

Business Combinations Prior To The Transition Date
A first-time adopter must account for any business combination occurring after its date of transition under Ind-AS 103, i.e., any business combinations during the comparative periods need to be restated in accordance with Ind-AS. An entity may elect not to apply Ind-AS 103 to business combinations occurring before the date of transition. However, if a first-time adopter does restate a business combination occurring prior to its date of transition to comply with Ind-AS 103, it must also restate any subsequent business combinations under Ind-AS 103 and apply Ind-AS 110 Consolidated Financial Statements from that date onwards. In other words, as shown on the time line below, a first-time adopter is allowed to choose any date in the past from which it wants to account for all business combinations under Ind-AS 103 without having to restate business combinations that occurred prior to such date.

A first time adopter may even decide to apply Ind-AS 103 retrospectively to all past business combinations. Neither Ind-AS 103 nor Ind-AS 101 prohibits such retrospective application. However, a first-time adopter should consider whether retrospective application of Ind-AS 103 requires undue use of hindsight. If so, it may be advisable to avoid retrospective application of Ind-AS 103 beyond a date when the first-time adopter can get information to apply Ind-AS 103 without undue use of hindsight. Ind-AS 101 prohibits the use of hindsight.

Associates And Joint Ventures
Under Indian GAAP, there is no requirement to purchase price allocation, as net assets are generally recorded based on the carrying value in the acquiree’s balance sheet. Ind-AS 103 places significant importance on the purchase price allocation process. All identifiable assets of the acquired business must be recorded at their fair values. Many intangible assets that subsumed within goodwill would be required to be separately identified and recognised. Explicit guidance is provided for the recognition of such intangible assets. Contingent liabilities are also required to be fair valued and recognized in the acquirer’s balance sheet.

Business combination exemption also applies to past acquisitions of associates, interests in joint ventures and joint operations. Therefore, a first-time adopter taking advantage of the exemption will not have to revisit past business combinations, acquisitions of associates and joint ventures to establish fair values and amounts of goodwill/capital reserve under Ind-AS. However, application of the exemption may be complex, and certain adjustments to transactions under the previous GAAP may still be required.

Asset Acquisition vs. Business Combination
This exemption is available to all the transactions that meet definition of a business combination under Ind-AS 103, irrespective of their classification under the previous GAAP.

Ind-AS 103 defines the term ‘business’ as ‘an integrated set of activities and asset 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.’ It clarifies that business consists of elements, viz., (i) inputs, (ii) processes applied to those inputs, and (iii) outputs. Although businesses usually have outputs, outputs are not required for an integrated set to qualify as a business. Identification of Inputs, processes may be more challenging in industries like real estate, infra projects etc.
However, if the past acquisition is only an asset acquisition and not a business combination under Ind-AS 103, this exemption does not apply. Rather, the acquirer may consider applying other applicable optional exemptions.

Transition Accounting For Contingent Consideration
Business combination exemption under Ind-AS 101 does not extend to contingent consideration that arose from a transaction that occurred before the transition date, even if the acquisition itself is not restated due to the use of the exemption. Therefore, such contingent consideration is recognized at its fair value at the transition date, regardless of the accounting under the previous GAAP. If contingent consideration was not recognized at fair value at the date of transition under the previous GAAP, the resulting adjustment is recognized in retained earnings or other category of equity, if appropriate. Subsequent adjustments will be recognized following the provisions of Ind-AS 103.

Subsidiary Becomes A First-Time Adopter Later Than Its Parent
If a subsidiary becomes a first-time adopter later than its parent, it should, in its financial statements, measure its assets and liabilities at either:
.    The carrying amounts that would be included in the parent’s CFS, based on the parent’s date of transition to Ind-AS, if no adjustments were made for consolidation procedures and for the effects of the business combination in which the parent acquired the subsidiary. However, this election is not available to a subsidiary of an investment entity, as defined in Ind-AS 110, or
.    The carrying amounts required by the rest of Ind-AS 101, based on the subsidiary’s date of transition to Ind-AS. These carrying amounts could differ from those described above:
      .    When the exemptions in Ind-AS 101 result in measurements that depend on the date of transition to Ind-AS.
      .    When accounting policies used in the subsidiary’s financial statements differ from those in the CFS. For example, the subsidiary may use as its accounting policy the cost model in Ind-AS 16, whereas, the group may use the revaluation model.

If a subsidiary was acquired after the parent’s date of transition to Ind-AS, then it cannot apply the first option because there are no carrying amounts included in the parent’s CFS, based on the parent’s date of transition.

A similar election is available to an associate or joint venture that becomes a first-time adopter later than an entity that has significant influence or joint control over it.

Parent Becomes A First-Time Adopter Later Than Its Subsidiary
If an entity becomes a first-time adopter later than its subsidiary (or associate or joint venture), the entity should, in its CFS, measure the assets and liabilities of the subsidiary (or associate or joint venture) at the same carrying amounts as in the financial statements of the subsidiary (or associate or joint venture), after adjusting for consolidation and equity accounting adjustments and for the effects of the business combination in which the entity acquired the subsidiary.

Unlike other exemptions, this exemption does not offer a choice between different accounting alternatives. A subsidiary, which adopts Ind-AS later than its parent, can choose to prepare its first Ind-AS financial statements by reference to its own date of transition to Ind-AS or that of its parent. However, the parent itself must use the Ind-AS measurements already used in the subsidiary’s financial statements, adjusted as appropriate for consolidation procedures and the effects of business combination in which it acquired the subsidiary. This exemption does not preclude the parent from adjusting the subsidiary’s assets and liabilities for a different accounting policy, e.g., cost or revaluation for accounting for property, plant and equipment. The exemption, however, limits the choice of exemptions (e.g., the deemed cost exemption) with respect to the accounts of the subsidiary in the transition date consolidated accounts.

Adoption Of Ind-AS On Different Dates In Separate And Consolidated Financial Statements
An entity may sometimes become a first-time adopter for its separate financial statements earlier or later than for its CFS. For example, such a situation may arise when an entity qualifies for the exemption from preparing CFS both under the Companies Act, 2013 and Ind-AS 110. Hence, in initial years, it does not prepare CFS and prepares only separate financial statements under Ind-AS. Subsequently, the entity may cease to be entitled to the exemption or may choose to prepare CFS voluntarily.

If an entity becomes a first-time adopter for its separate financial statements earlier or later than for its CFS, it should measure its assets and liabilities at the same amounts in both financial statements, except for consolidation adjustments.

As drafted, the requirement is merely that the “same” basis be used, without being explicit as to which set of financial statements should be used as the benchmark. However, it seems clear from the context that the measurement basis used in whichever set of financial statements first comply with Ind-AS must also be used when Ind-AS are subsequently adopted in the other set.

Ind-AS convergence roadmap issued by the MCA covered Ind-AS applicability to companies in the non-financial services sector. It requires that if a company is covered under Ind-AS applicability, its holding, subsidiary, joint venture or associate companies should also adopt Ind-AS from the same financial year. Also, companies are required to adopt Ind-AS for separate financial statements and consolidated financial statement from the same financial year.

This indicates that Ind-AS 101 exemption related to ‘Assets and liabilities of subsidiaries, associates and joint ventures’ may not have much relevance for Indian companies. However, this is not completely true. The exemption may be relevant in the scenario such as the following:

.    One of the group entities approves and publishes its first Id-AS financial statements before the approval of financial statements of the rest of the group. Consider a major subsidiary in the group approves and issues its first Ind-AS financial statements for the year ended 31 March 2017, while the parent entity is still finalizing its first Ind-AS financial statements for the same year. This will limit the parent's ability to use Ind-AS 101 exemptions and it will need to go with the choices already made by the subsidiary with regard to subsidiary accounts.
.    Ind-AS are currently not applicable to entities in the financial services sector; rather, a separate roadmap will be issued for these entities. When these entities adopt Ind-AS at a future date, this exemption will be relevant if their parent, subsidiary, associate or joint venture has already applied Ind-AS

Final Words
It is clear that accounting guidance is more comprehensive under Ind-AS regime for business combinations than under Indian GAAP, but at the same time it will significantly increase efforts of finance people for accounting, measurement and disclosure requirement.

To ensure compliance with these requirements, management should identify “data gaps” early on so that any information that needs to be captured can be captured and recorded for all periods required to be converted. Companies will need to assess whether their current systems and processes are capable of capturing, tracking, aggregating, and reporting information to meet the disclosure requirements of the new standard. For many, this may require significant changes to existing data-gathering processes, IT systems, and internal controls.

Companies will need to carefully evaluate the Ind-AS transition provisions and election of accounting policy, in case they wish to bring their Ind-AS financial statements closer to IFRS, which  may be more important for those entities, planning to raise funds from overseas or list abroad.

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