Yellow Jersey Bicycles Ltd
Suggested Solution
Question (a) – Discuss, with reasons, whether the intangible assets of Designer Helmets Ltd should
be recognised in the consolidated financial statements of Yellow Jersey Bicycles Ltd. If you believe
that either or both should be recognised, discuss the amounts at which they should be measured
both at and post‐acquisition
An acquirer shall recognise, separately from goodwill the identifiable assets acquired in a
business combination (IFRS 3.10). An intangible asset is identifiable if it meets either the
separability or the contractual‐legal criterion (IFRS 3 Appendix A “identifiable” definition).
A customer list does not usually arise from contractual or other legal rights as it is generally
gathered over a number of years in a database. However, customer lists can be leased or
exchanged between companies and are therefore able to be separated from the business
unless there are confidentiality provisions (none indicated in question) that preclude
transfer or sharing. Therefore, the internally generated customer list acquired in the
business combination seems to meet the separability criterion and will be recognised as an
intangible asset in the group financial statements.
In preparing the 2010 group financial statements, the fair value of the internally generated
customer list was not available and the accounting was only determined on a provisional
basis. This would result in the intangible asset was not being recognised in the 2010 financial
year. (Note: This would result in the value of the intangible being recognised as part of
goodwill at acquisition.)
The fair value (valuation) of the internally generated customer list was available in July 2010,
i.e. within 12 months of the acquisition date. Therefore the 2010 comparative figures should
be restated (in the same way as one would account for an IAS 8 change in policy or prior
period error) to take into account the value of the intangible (and its related deferred tax).
(Note: This would result in a reduction in goodwill to the value of the intangible asset net of
its related deferred tax.)
The intangible asset should be measured initially at its fair value of R800 000, i.e. its fair
value at acquisition not the valuation date, and amortised over its useful life of 10 years
starting on 1 October 2009 as if YJB had had the valuation from the acquisition date, i.e.
comparatives will also be restated to include amortisation in the 2010 financial year.
(Note: Deferred tax related to the intangible would be recognised at R224 000
[R800 000 x 28%] as the value is realised through use.)
The exclusivity contract is also an intangible asset that should be recognised due to the fact
that it is identifiable as it arises from a contractual right. It should be recognised initially at
fair value of R200 000 and amortised over its expected useful life of 2 years and 5 months.
The intangible asset should be impaired on 28 February 2011 to its recoverable amount so
that its carrying amount does not exceed its recoverable amount of R60 000.
Marks available
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Question (b) – Prepare the pro forma journal entries required to consolidate the results and
financial position of Terrific Tyres Ltd in the consolidated annual financial statements of Yellow
Jersey Bicycles Ltd for the year ended 28 February 2011
Note: The pro‐forma journal entries assume that the following entry is the only entry that
has been processed in relation to TT in the separate financial statements of YJB on 1 March
2009:
Dr Investment (SFP)
1 480 000
Cr Bank (SFP)
955 000
Cr Share capital (equity)
360 000
Cr Contingent consideration (liability)
165 000
The contingent consideration will be adjusted to its fair value at each reporting date until
paid in the separate financial statements. Changes in the liability will be taken to P/L.
All workings in analysis of equity
Dr Share capital (equity)
200 000
Dr Retained earnings (equity)
1 790 000
Dr Acquisition costs (eq)
20 000
Dr Retained Earnings (eq) [Acquisition costs]
35 000
Dr Cost ‐ Investment property (SFP)
375 000
Dr Non‐current asset held for sale (SFP)
10 000
Dr Indemnification asset (SFP)
135 000
Dr Goodwill (SFP)
142 800
Cr Contingent liability (SFP)
180 000
Cr Deferred tax (SFP)
107 800
Cr Investment in TT (SFP)
1 480 000
Cr Non‐controlling interest (equity)
940 000
Elimination of investment
Note: As the payment of the acquisition‐related costs took place in a prior year, the related
adjustment is taken to retained earnings.
Dr
½
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3
½
Accumulated depreciation – Investment
480 000
Property (SFP)
Cr Cost – Investment property (SFP)
480 000
Disclosure entry to eliminate accumulated depreciation on investment property at acquisition
1
Dr Retained earnings (equity)
Dr Deferred tax (SFP)
Cr Non‐current asset held for sale (SFP)
Adjustment to prior year loss on sale of IFRS 5 asset
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1
1
7 200
2 800
Dr Investment property (SFP)
205 000
Dr Accumulated depreciation (SFP)
120 000
Cr Deferred tax (SFP) (AoE: 43.4 + 33.6)
Cr Retained earnings (equity)
Recognition of fair value adjustment and reversal of depreciation in prior year
Dr Retained earnings (equity)
272 320
Cr NCI (equity)
Attribution of post‐acquisition pre‐current year changes in equity to NCIs
10 000
77 000
248 000
272 320
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1
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2
Dr Investment property (SFP)
Cr Fair value adjustment (P/L)
Current year fair value adjustment
Dr Accumulated depreciation (SFP)
Cr Depreciation (P/L)
Reversal of current year depreciation
50 000
50 000
1
120 000
1
120 000
Dr Deferred tax (P/L) (AoE: 7 + 33.6)
40 600
Cr Deferred tax (SFP)
Deferred tax related to fair value adjustment and depreciation reversal
1
40 600
Dr Contingent liability S(FP)
180 000
Cr Indemnification asset (SFP)
135 000
Cr Other expenses (P/L)
45 000
Reversal of contingent liability and related indemnification asset due to amount being settled
1
1
1
Dr NCI (P/L)
Cr NCI (equity)
Attribution of current year changes in equity to NCIs
2
213 760
213 760
Narrations
Total Available
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Analysis of TT’s Equity
100%
At acquisition
Share capital
Retained earnings
Contingent liability
Indemnification asset
Held for sale
Deferred tax
Investment property
Deferred tax
Paid
Goodwill
Post‐acquisition; pre current year
Retained earnings
Disposal of HFS plant
Deferred tax
Fair value adjustment
Deferred tax
Depreciation reversal
Deferred tax
Current year
Comprehensive income
Fair value adjustment
Deferred tax
Depreciation reversal
Deferred tax
Contingent liability
Indemnification asset
200 000
1 790 000
‐180 000
135 000
10 000
‐2 800
375 000
‐105 000
2 222 200
60%
No deferred tax ‐ not deductible
No deferred tax – follows cont liab
(210 ‐ 200)
(28% deferred tax ‐ below cost)
(1.095m ‐ 0.72m)
(28% deferred tax ‐ below cost)
2 365 000
142 800
1 425 0001
440 000
‐10 000
2 800
205 000
‐43 400
120 000
‐33 600
680 800
(2 230 ‐ 1 790)
360 000
50 000
‐7 000
120 000
‐33 600
180 000
‐135 000
534 400
40%
940 000
(1.3m ‐ 1.095m)
(100 x 14% + 105 x 28%)
272 320
(2 590 ‐ 2 230)
(1.35m ‐ 1.3m)
213 760
Note: An analysis of equity can be a useful tool to use as part of workings BUT if you prepare an
AoE and do not answer the question, you are awarded zero marks. If you choose to use an AoE,
always make sure you carry numbers through to the solution as soon as you have them so that you
ensure that you score marks. Also, only calculate the numbers that you need; you will notice in the
above AoE, very few numbers are calculated in the 60% and 40% columns. You need to be smart
about how you use an AoE – if used in the wrong way they can be very dangerous and prohibitive
to scoring marks. This is an area that requires a lot of practice.
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1 480 000 (investment) – 55 000 (acquisition‐related costs) = 1 425 000
Question (c) ‐ Describe the audit procedures necessary to obtain sufficient appropriate audit
evidence for the acquisition of Designer Helmets Ltd by Yellow Jersey Bicycles Ltd
Discuss with management the policies, procedures and controls followed in respect of the
business combination, specifically in respect of the policy followed for the valuation of non‐
controlling interest.
Obtain a schedule of the client’s working papers showing the calculation of the goodwill.
Test the accuracy and valuation of the schedule by re‐performing all casts and calculations.
Inspect the purchase contract and verify the purchase price, acquisition date, in the name of
YJB and duly signed.
Agree the equity balances and carrying amounts of underlying net assets to the
management accounts of DH at the date of acquisition.
Perform analytical procedures to prove the accuracy of the management accounts by
comparing to the most recent audited financial statements.
Enquire of management and inspect correspondence, minutes of meetings and management
records to obtain evidence that all assets, liabilities, commitments, contingencies, etc. at the
effective date have been identified.
Agree the fair value of the NCI to an independent qualified valuer’s report OR
Obtain management’s calculation of the fair value of the NCI and agree the fair
value to management’s calculation OR
Agree the fair value of the NCI to the market price per share multiplied by the number of
shares.
Agree the valuation of the customer list and supply contract of DH on 1 October 2009 to an
independent qualified valuer’s report and management’s calculation.
Review the valuation report for appropriate methodology, source data and assumptions and
perform procedures to conclude if the auditor can place reliance on the work performed by
the valuers and management.
Agree the term of the supply agreement to the underlying signed agreements.
Agree the market related rates for the supply agreement to a reliable independent external
source for such rates.
Agree the discount rate for the leases to DH’s incremental cost of borrowings.
Recalculate the off market components of the agreement.
Agree the amount paid for the acquisition to the bank statement and confirmation of receipt
of payment.
Recalculate the deferred tax effects of the acquisition and compare to management’s
calculations.
Recalculate the goodwill and compare to the recorded value.
Obtain a management representation letter dealing specifically with the accuracy and
valuation of amounts arising from the transaction in the consolidated financial statements.
Marks available
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