Discuss about the Business Combinations Strategy.
Business combinations refer to the strategy by which business intend to expand in its size and operations and as a results, acquires dominance over the working of another business firm. When one business unit merges or acquires another business unit, it is referred to as a business combination. It requires identifying the acquirer and then finalization of the appropriate acquisition date and ends with the recognition and valuation of the assets or liabilities taken over. The entire process of business combination must be in accordance with the applicable Australian Accounting standards.
Business combination is the mechanism which an organization uses to expand its asset and capital base and effect a significant increase in its business operations and capture a larger market stake. It is a re-organization of the entity and its assets structure. Such re-organization can either be internal or external in nature. Some of the widely used forms include amalgamation, holding subsidiary relationships or demerger.
Business combination can be mindfully ensure the entity’s growth and increased business operations and hence, facilitates higher revenues and profits, in the long run. Such increased profits are directly proportional to greater dividends to shareholders and better shareholder satisfaction. According to AASB 10, business combination refers to a transaction or other event in which an acquirer obtains control of one or more businesses. Assets transferred other than by way of transfer of the entire business shall not be termed as business combination. Rather, such a transaction would be called a separate transaction, which does not arise as a result of the transfer of business. A business basically is a value added process, under which all the inputs are combined and then processes are being carried out, which convert those inputs into the final outputs, thereby facilitating them for feasible selling and distribution. Generally, businesses dealing in the same product lines or having similar product distribution channels engage themselves into business combination, so as to eliminate competition and extend its business operations. Due to the increased volume post- combination, the entities also benefit themselves from economies of scale. After the business is acquired by another entity, the acquirer shall, form the date of such acquisition be required to prepare the consolidated financial statements, along with its standalone financial statements. The acquirer company is not liable to prepare consolidated financial statements for the period prior to the amalgamation/ reconstruction.
Business combinations are also referred to as the schemes of mergers and acquisitions, in which one company merges with the other, either in the form of amalgamation; or one company acquires the other, which is known as having a holding- subsidiary relationship or having an associate member.
The acquisition of the assets can either be an asset combination or a business combination, on a whole, i.e. if the assets form part of a business, then it would be called as business combination (Financial Accounting Standards Board of the financial accounting foundation, 2007).
In other words, business combination means bringing together of two or more distinct entities or organizations and merge them into one single entity. AASB 3 does not apply to business organizations which engage themselves in combinations in the formation of joint venture.
Recognizing a business combination begins with the identification of the acquirer followed by determination of the acquisition date and measurement of the assets and liabilities to be taken over. Business combination involves two or more entities, in which one entity acquires the business of the other entity/ entities. Acquisition of the business involves acquisition of all the assets and liabilities of the firm. In such a case, the entity which acquires the business and gains control over other entities shall be referred to as the acquirer company. Acquired company shall be the one which transfer its assets and liabilities to the other company, in exchange of a pre- determined consideration. Guidance note to AASB 127 ‘Consolidated and separate financial statements’ govern the preparation and method of maintaining books and accounts of the combined entity. It prescribes that both the standalone and combined revenue statements should be prepared.
It is important to beforehand identify the acquirer entity because the consideration which the acquirer company has to pay to the acquire must be certain and pre determined. Also, consolidated financial statements need to be prepared by the acquirer company post acquisition date. Since the domination lies with that company, it shall control all other entities amalgamated with it. And the old/ existing company must timely determine whether the acquiring company is capable of governing all the operating and financial policies of the business which it acquires. Also, identification of the acquirer is important so as to determine the size of the entities being transferred, the relative voting rights of the acquiring company in the new combined company. An analysis of the governing body of the acquirer must be made so as to determine the composition of the senior management and persons holding key managerial positions in the company. Also, it is important for the entities to discuss and state in written the terms and conditions of such exchange and transfer of assets, and for this, identification of the acquirer is a must. The acquirer entity shall be deemed responsible for adhering to all the governmental, operational and legal regulations and hence, it is the topmost priority of the entity to gain information and knowledge about the acquire entity. Before effecting a business combination, the entity should very well judge the capability and potential of the acquirer, so that the business reputation earned over the years, does not get negatively affected.
Acquirer can be identifying by analyzing the direction in which the consideration is transferred. For example, A company, ABC Ltd. Transfers its assets and liabilities to XYZ Ltd.in return of a consideration, which is paid by XYZ Ltd., then the entity which pays consideration in the form of cash or shares is the acquirer. But, if the equity shares held by ABC Ltd. are transferred to XYZ Ltd and ABC Ltd receives some sort of consideration from XYZ Ltd for those shares, even then, the acquires shall be the final acquirer party, in this case, the acquirer shall be the equity shares issuing company and not XYZ Ltd. consideration is always paid for something in return. In case of a business combination, the consideration is paid in exchange of the assets transferred to the acquirer. Hence, the direction of the flow of consideration from one entity to another determines who the acquirer is.
In other words, an acquirer can be identified as the entity whose management holds dominance over the other entities after a business combination takes place.
In a business combination, one entity obtains control over the other. This implies that when an entity acquires control over another entity for the first time, it shall be referred to as business combination. However, if the acquirer company acquires more shares of the company post business combination, it shall only mean an increase in the percentage of control over the other company and not a separate business combination.
The acquirer of the business combination is identified using the guidelines given in paragraphs B 14-B18 o AASB-3 and the guidance note of IFRS 10’Consolidated financial statements’. In other words, determination of the acquirer requires judgment. The acquirer is normally the firm hat disburses cash in exchange of the assets acquired from another firm. As compared to the firm size, acquirer is normally the company which has a relatively greater size of assets and greater net worth than the other firm.
Recognition of assets acquired and the assumed liabilities take place only if both the assets and liabilities satisfy the criteria given in the definitions of assets and liabilities, as given by the International Accounting Standard Board. AASB 3 also specifies that only those assets and liabilities shall be recognized which have been acquired or assumed as a result of any business combination. Any assets or liabilities acquired otherwise, i.e. by any separate transactions, shall not be recognized by the acquirer company. In such a case of business combination, the accounting standards and procedures followed by the acquirer and the acquired company may differ. And hence, the recognition of such assets and liabilities shall also differ between two different entities. The acquirer’s application of the recognition principle and that of the other firm may differentiate and it is quite reasonable that the acquirer company, post-combination acquires and recognizes certain assets acquired or liabilities assumed, that have not been duly recognized by the acquired company. Some of the examples supporting the statement are listed below:
The acquirer entity in the business combination may recognize the identifiable brand name of the acquired company an asset, whereas, the acquired company does not recognize such brand name as an asset pre business combination (Castedello and Klingbeil, 2009). This difference in the recognition of brand name arises only because of a difference in the revenue recognition principles and the International financial reporting system followed by the entities. Hence, the manner and the accounting policies followed by both the entities in recording and recognizing brand name as an asset may vary.
Similarly, the acquirer entity may recognize certain identifiable intangible assets like patents, customer relationships, etc. as an asset in its financial statements, but the pre combination acquired company doesn’t record the same as the entity considered that these were internally generated and does not qualify to be an asset as per the Australian accounting standards. The pre acquired company may consider it as an item of revenue and expenditure and deal accordingly. These intangible assets like patents and customer relationships include the customer detailed book, the contact and sales details and these are also sometimes referred to as defensive and identifiable intangible assets.
In a business company, one entity may obtain certain defensive intangible assets from the other entity which it does not intend to use in its business operations, but, hold them to gain a competitive advantage. Also, the recognition principle of certain contingent items may vary from entity to entity. The acquirer may record all the past generated future contingent liabilities, which the acquired company does not recognize prior to the combination. A difference in the recognition concepts does not judge the business combination to be legally valid or invalid. It varies from entity to entity.
Also, the value at which the assets are recognized by the acquirer and the acquired company may vary, as the acquirer records all its assets acquired and liabilities assumed, other than goodwill, at the fair values as existing on the date the business acquisition or combination takes place. There may also be differences in the method of depreciation being charged on the fixed assets, the recording of deferred tax expenses, items relating to prior period, etc. Furthermore, the entities may follow different basis of accounting, i.e. accrual basis or cash basis. This would again change the recognition of the assets and liabilities acquired during the business combination.
Conclusion
From the above attached report, we can conclude that whenever one business firm acquires the business of another firm, including all its assets and liabilities, then, it is referred to as a business combination. Business combination basically starts with identification of the acquirer, followed by the selection of the acquisition date, and ending with the recognition of the assets and liabilities acquired in the business combination. Each of these steps has a specific significance, on its own. Also, in business combinations, the value at which the assets and liabilities are recognized by the acquirer company has a great significance. The firm needs to follow the Australian Accounting Standards for the recognition and valuation of various assets and liabilities of the firm.
References:
Dagwel, R., Wines, G. and Lambert, C. (2012). Corporate accounting in Australia, China: Pearson Australia.
Financial Accounting Standards Board of the financial accounting foundation (2007) Statement of financial accounting standards no. 141,Norwalk: Financial accounting foundation.
Miller, B.W.Paul, Bahnson, R. Paul (2008) ‘A new day for business combinations’, Journal of accountancy, June.
Willens, R. (2008) ‘Does it matter which company is the acquirer?’, Banking & Capital markets.
Dodyk, L., Dolson, M., Weinberger, R., Bennett, E. and Psciotta, C. (2014). Business combinations and non-controlling interests. Global edition, Pwc.
Porter, B. (2004) ‘Business combinations: insights for Australian entities’, Deloitte discussion paper.
Castedello, M. & Klingbeil, C. (2009) Intangible assets and goodwill in the context of business combinations, Munich: KPMG.
Intangible assets in business combination (2008), Grant Thonton.
Roger Hussey (2010) Business Combinations and Consolidated Financial Statements, Fundamentals of International Financial Accounting and Reporting, pp. 225-252.
Yujiro Okura (2009) A Study of Goodwill and Intangible Fixed Asset on Business Combination, M&A for Value Creation in Japan: pp. 17-33.
Board, A.S. (2002) IASB proposals on business combinations, impairment and intangible assets/ accounting standards board. Surrey: Accounting Standards Board.
Beyersdorff, M. (2014) International GAAP 2014:Generally accepted accounting principles under international financial reporting standards. 9th edn. United States: K=John Wiley & Sons.
Subcommittee in education and practice of the committee on insurance accounting (2008) ‘Business combinations under international financial reporting standards’, International Actuarial Association.
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