AFAR: BUSINESS COMBINATION | MERGER | ACQUISITION

Summary

This video tutorial simplifies the complex topic of business combinations, focusing on mergers, acquisitions, and consolidations. It explains key differences, stages of accounting, and financial statement implications. Using a detailed example involving Brad, Finian, and Pinnacle Corporation, the video walks through calculating goodwill, gains on bargain purchases, retained earnings impacts, stockholders’ equity changes, and identifiable assets. It also clarifies proper treatment of acquisition-related expenses under IFRS, emphasizing fair value, market value, and classification between capitalized costs and expenses. Designed for students, the tutorial breaks down intricate accounting processes into clear, actionable steps for mastering merger and acquisition accounting.

Takeaways

• 😀 Business combinations are classified into two main types: Merger/Acquisition and Consolidation.
• 😀 In a merger or acquisition, one company survives while the other ceases to exist, resulting in a single set of financial statements.
• 😀 Consolidation involves forming a new company (C) from A + B, requiring three sets of financial statements: parent, subsidiary, and consolidated.
• 😀 Goodwill is calculated as the consideration paid minus the fair value of net assets acquired and is considered an intangible asset.
• 😀 A bargain purchase occurs when the fair value of net assets exceeds the purchase price, resulting in a gain recognized in the income statement.
• 😀 Acquisition-related expenses like legal fees, SEC registration, and printing costs affect retained earnings or may be charged to equity depending on their nature.
• 😀 Stockholders’ equity changes are influenced by share issuance at market value, expenses, and gains from bargain purchases.
• 😀 Identifiable assets increase based on total acquired assets minus goodwill; goodwill itself is not considered an identifiable asset.
• 😀 Fair value should be used over book value in merger or acquisition calculations, unless otherwise specified.
• 😀 Each company involved in a business combination should be analyzed separately before consolidation or recording the effects on financial statements.
• 😀 Key stages in consolidation include acquisition, post-acquisition adjustments, and intercompany transactions.
• 😀 Proper classification of costs and careful use of fair value are essential to accurately reflect financial effects in mergers and acquisitions.

Q & A

What are the two main types of business combinations discussed in the video?

The two main types are Merger or Acquisition, and Consolidation. In a merger or acquisition, one company survives while the other ceases to exist, resulting in a single set of financial statements. In a consolidation, a new company is formed, and three sets of financial statements are prepared: the parent, the subsidiary, and the consolidated company.

How does a merger or acquisition differ from consolidation in terms of financial statements?

In a merger or acquisition, only one set of financial statements exists after the transaction because one company absorbs the other. In consolidation, there are three sets of financial statements: the parent, the subsidiary, and the newly formed consolidated entity.

What is the formula representing a merger or acquisition, and what does it signify?

The formula is A + B = A (or B). It signifies that one company (A or B) survives while the other is absorbed and ceases to exist.

What is the formula representing consolidation, and what does it signify?

The formula is A + B = C. It signifies that two companies combine to form a new company C, with the original companies no longer existing as separate entities in terms of consolidated reporting.

How is goodwill calculated in a merger or acquisition?

Goodwill is calculated by taking the total consideration paid (cash + market value of shares issued) and subtracting the fair value of the net assets acquired. If the consideration exceeds the fair value, the difference is recorded as goodwill.

What is a gain on bargain purchase, and how does it occur?

A gain on bargain purchase occurs when the purchase price paid is less than the fair value of the net assets acquired. It is recognized as income in the financial statements.

How are acquisition-related expenses treated in accounting?

Acquisition-related expenses such as finder’s fees and legal fees are expensed immediately, reducing retained earnings. Expenses related to incorporation or issuing shares are charged to share premium or additional paid-in capital.

Which assets are considered identifiable in a business combination?

Identifiable assets are those that can be measured and separated from goodwill, such as cash, equipment, and other tangible or intangible assets that are not considered part of goodwill.

How does the issuance of shares affect stockholders' equity in a merger or acquisition?

The issuance of shares at market value increases stockholders' equity. Any expenses directly related to the acquisition and charged to equity reduce the total stockholders' equity.

What are the three major stages in consolidation accounting?

The three major stages are: 1) At the date of acquisition, 2) Subsequent to the date of acquisition, and 3) Intercompany transactions. These stages ensure proper recognition of assets, liabilities, and transactions between parent and subsidiary.

Why is it important to analyze each company separately before combining them in a merger or acquisition?

Analyzing each company separately ensures accurate calculation of net assets, total consideration, goodwill, and any gains on bargain purchase. It also helps identify which expenses affect retained earnings versus equity and avoids errors in financial statement preparation.

What assumptions are made about fair value in the examples provided in the video?

The video assumes that the book value of assets equals the fair value unless otherwise stated. This simplifies calculations for goodwill, bargain purchase, and identifiable assets.