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Dr. Winnie S.C. Leung
ACCT4104 Advanced Financial Accounting 2020-21
CHAPTER 14 – BUSINESS COMBINATIONS
Further Practice (adopted from QP Learning Pack Module A Ch. 26)
Question #1: Contingent consideration in cash
Anderson Co. enters into an agreement to acquire all of the ordinary share capital of Potter Co. on 15
December 2018. Consideration of $100m is paid on 1 January 2019. In addition, the purchase agreement
stipulates that a further payment will be required dependent on the earnings of Potter Co. post acquisition.
The terms of the contract call for additional cash consideration to be paid two years after the acquisition in
the event that Potter Co.'s earnings exceed $5m in each of the next two years subject to an earnings cap of
$7m. For earnings in excess of $5m, Anderson Co. is required to pay 20% of the excess to the previous
shareholders.
Management have used a simulation model to ascertain the fair value of the contingent consideration and
estimated it to be $0.25 million.
On the acquisition date the fair value of the identifiable net assets of Potter Co. was $96m.
(a) Identify the acquisition date.
(b) What goodwill arises on the acquisition of Potter Co.?
(c) State how the investment in Potter Co. is recorded in the individual financial statements of Anderson Co.
in the year ended 31 October 2019.
Solution
(a) The acquisition date is the date on which Anderson gains control of Potter.
Unless written agreement states otherwise, this is the date on which consideration is paid, therefore 1
January 2019.
(b)
$'000
Cash consideration
Fair value of contingent consideration
Fair value of identifiable net assets of Potter
Goodwill
250
(96,000)
4,250
(c) Anderson Co. records the investment in Potter Co. by:
DEBIT
Investment (Shares in Potter)
CREDIT
100,000
Cash
Liability for contingent consideration
$'000
100,250
$'000
100,000
250
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Dr. Winnie S.C. Leung
ACCT4104 Advanced Financial Accounting 2020-21
Question #2: Contingent consideration in cash
To continue with the above example, assume the following:
(a) Further information has been received by the management of Anderson Co. on 1 June 2019 which has
led them to re-assess the acquisition date fair value of the contingent consideration to be $0.2m.
(b) At the end of the first year of the earnout period, Potter Co. reports earnings of $8 million. The fair value
of contingent consideration in relation to the second year at this stage is estimated to be $0.1m.
Considering each of these separately, how are the calculation of goodwill and Anderson Co.'s journal to
recognise the investment in Potter Co. affected?
Solution
(a) In this instance the goodwill arising in Potter Co. is remeasured:
$'000
Cash consideration
Fair value of contingent consideration
Fair value of identifiable net assets of Potter
Goodwill
100,000
200
(96,000)
4,200
Adjustment to the original acquisition journal made is therefore required:
$'000
DEBIT
CREDIT
50
Liability for contingent consideration
Investment (Shares in Potter)
$'000
50
(b) In this instance, goodwill is not remeasured because the change in the estimated fair value of contingent
consideration is due to events which took place after the acquisition date; it remains at the acquisition
date amount of $4.25m. The liability in Anderson's financial statements is, however adjusted to reflect
the new estimate of the amount of contingent consideration payable:
Payable in respect of:
$'000
Year 1 (($7m – $5m) x 20%)
400
Year 2
100
500
Therefore:
DEBIT
CREDIT
Profit or loss (500 – 250)
Liability for contingent consideration
$'000
250
$'000
250
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Dr. Winnie S.C. Leung
ACCT4104 Advanced Financial Accounting 2020-21
Question #3: Measurement period adjustments
Yeltsin Co. acquired 100% of Johnson Co. on 1 March 2018, agreeing to pay cash consideration of $78
million. The provisional fair value allocated to the net assets of Johnson Co. at the acquisition date was $71
million, however the management of Yeltsin Co. have engaged third party experts in order to reliably
measure the fair value of the intangible assets of Johnson Co. at this date. The reporting date of Yeltsin Co.
is 30 June 2019, and at this date the third party experts have not yet concluded their work.
On 18 August 2018, the experts report to management that the fair value of one of Johnson's intangible
assets is $2m greater than the provisional value allocated to it. They also confirm the presumption that the
asset has an indefinite useful life.
Required
1. Calculate the value of goodwill recognised in the financial statements of the Yeltsin Group on 30 June
2018 and 30 June 2019.
2. Prepare the journal entry for the adjustment of goodwill in the individual books of Yeltsin if:
a. Yeltsin acquired 100% net assets of Johnson on 1 March 2018.
b. Yeltsin acquired 100% share capital of Johnson on 1 March 2018.
Solution
1.
30 June 2018
$m
Consideration transferred
Provisional fair value of net assets acquired
Goodwill
78
(71)
7
30 June 2019
$m
Consideration transferred
Actual fair value of net assets acquired (71m + 2m)
Goodwill
78
(73)
5
2(a)
DEBIT
CREDIT
Intangible assets
Goodwill
$m
2
$m
2
As the adjustment is made retrospectively the 2018 comparative financial statements provided in
2019 are adjusted to reflect the lower value of goodwill.
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ACCT4104 Advanced Financial Accounting 2020-21
Dr. Winnie S.C. Leung
2(b)
$m
DEBIT
CREDIT
No entry is required
~ End ~
$m