GROUP OF COMPANIES - 4

Adjustments – Fair value at date of acquisition

 

 

Fair value

 

 

Is the amount for which an asset could be acquired/exchanged, liability settled between

 

knowledgeable and willing parties.

 

 

 

 

Adjustments

 

 

The fair value of the acquired subsidiary’s identifiable assets and liabilities should be

 

adjusted into the consolidated Balance Sheet at the date of acquisition.

 

 

 

 

The adjustments are necessary for some reasons of which include:-

 

 

- to avoid non-compliance with the Financial Reporting framework regulation pioneered by

 

the Professional Accountancy Bodies recognised internationally. For example, the

 

adjustments will facilitate that the value of net assets acquired by group is stated at its costs.

 

 

 

- to avoid goodwill being overstated which will occur if the net assets of the subsidiary

company is not stated at fair value at the date of acquisition.

 

 

 

 

To demonstrate this, read the example below:-

 

 

A) If no adjustments were made

 

     Purchase consideration      =          20,000

 

    Value of net assets at          =          13,000

     date of acquisition not

     at fair value                                                           

                                                            ----------

     Goodwill                                          7,000

                                                            ======

 

 

B) If adjustments were made

 

    Purchase consideration       =          20,000

 

    Value of net assets at          =          16,000

     date of acquisition

     at fair value

     (i.e. after adjustments

      were made)

                                                            ----------

                                                                4,000

                                                            ======

 

 

 

Therefore, the goodwill is overstated by 3,000 if no adjustments were made.         

 

 

 

 

Treatment of adjustments on the fair value

 

 

    Value of net assets at          =          16,000

     date of acquisition

     at fair value

     (i.e. after adjustments

      were made)

                                                            ----------

                                                                4,000

                                                            ======

 

 

 

Therefore, the goodwill is overstated by 3,000 if no adjustments were made.         

 

 

 

 

Treatment of adjustments on the fair value

 

 

The amount to be adjusted can be calculated by taking the difference between the fair value

 

and the book value of the net assets at date of acquisition.

 

 

The adjustments will be made by apportioning between the non-controlling interest and the

 

group.

 

 

Also, it is important to note that the adjustment will result to additional depreciation due to

 

there being more depreciation being charged based on fair value compared to depreciation

 

based on historical costs over the coming years in the useful life of the assets.

 

 

 

 

 

Consolidated Profit & Loss Account

 

 

Only the post-acquisition of the subsidiary’s profit & loss is to be consolidated into the profit

 

and loss account of the parent company.

 

 

 

For example

 

 

The subsidiary’s company year end is 31^st December 2013.

 

Its acquisition date is 1^st August 2013.

 

 

Its revenue and expenses to be consolidated to the parent’s profit & loss account

be on and after 1^st August 2013.

 

 

The date before 1^st August 2013 will be considered pre-acquisition date and the profit & loss

 

for such pre-acquisition period will be used to compute the goodwill at date of acquisition.

 

 

 

 

 

Suggested steps when consolidating the Profit & Loss Account

 

 

Step 1 – To establish the percentage of the equity shares of the subsidiary company acquired

 

              by the parent company.

 

 

 

Step 2 – to compute the goodwill which is the difference between the purchase consideration

 

              and the acquired net assets of the subsidiary at date of acquisition.

 

 

 

Step 3 – Cancel out intercompany items such as inter-company sales and interests payable or receivable between group of companies.

 

 

 

 

For example:-

 

 

If inter-company revenue are eliminated, the effect will be a reduction in sales and costs of

 

sales.

 

Step 4  - To eliminate the unrealised profit.

 

 

 

For example:-

 

 

As some goods are taken or bought from one group of companies by another of which have

 

not been sold out to any third party, there is this element of unrealised profit which must be

 

eliminated when producing the consolidated profit & loss account.

 

 

 

 

As mentioned earlier in our earlier accounting blog, this adjustments on unrealised profit will

 

provide a fairer value for the closing stock of the group companies as a whole.

 

 

 

This will also ensure that group companies or the consolidated profit & loss account is not

 

overstating its profit or understating its losses.

 

 

 

Step 5 – Make relevant adjustment for the depreciation as a result of the fair value adjustment.

 

 

 

Step 6 – To compute the amount of goodwill at the end of the financial year.

Step 7 – to calculate the amount of the group profit and that of the non-controlling interest.