Amalgamation& External
Recontruction
Meaning of Amalgamation
When two or more existing companies go into
liquidation and a new company is formed to take
over their business , it is known as amalgamation.
The institute of chartered accountants of India has issued
Accounting Standard 14 (AS 14) on accounting for
amalgamation. This standard specifies the procedure of
accounting for amalgamation and the treatment of
any resultant goodwill or reserve.
Types of Amalgamation
From Accounting point of view :
A.
B.
Amalgamation in the nature of merger.
Amalgamation in nature of purchase.
Amalgamation in the nature of Merger
An amalgamation should be considered in nature of merger if it
fulfills following conditions :
1.
All assets & Liabilities of the transferor company
become the assets & liabilities of transferee co.
after amalgamation.
2. Shareholders holding not less than 90% of face
value of equity share capital of the transferor
company (other than equity shares already held therein,
immediately before the amalgamation, by the transferee
company or its subsidiaries or their nominees) become
the equity shareholders of the transferee by virtue
of the amalgamation.
3.
The business of transferor company is intended to
be carried on, after the amalgamation by the transferee
company.
4.The consideration for amalgamation receivable by those
equity shareholders of the transferor company who agree to
become equity shareholders of the transferee company is
discharged by the transferee company wholly by issue of
equity shares in the company, except that cash may
be paid in respect of any fractional shares.
5. No adjustment is intended to be made to the book
values of the assets and liabilities of the transferor
company when they are incorporated in the financial
statements of the transferee company except to ensure
uniformity of accounting policies.
In this way there is a pooling of assets and liabilities of the
combining companies under amalgamation. It must be ensured
that the resultant figures of the assets, liabilities, capital and
reserve of the combining entity more or less represent the
addition of the relevant figures of the amalgamation entities.
Amalgamation in the nature of Purchase
An amalgamation in nature of purchase takes
place when any one or more of the
conditions specified for the amalgamation in
nature of merger is not satisfied.
Under this nature of amalgamation one
company acquires another company and
equity shareholders of the combining
entities do not continue to have
proportionate share in the equity of
the combined entity or the business of
the combined entity is not intended to
be combined after amalgamation.
Absorption
When one or more existing companies go into liquidation
and some existing company buys the business, it is
known as absorption.
The major characteristics of the absorption are as
follows :
1.There is no formation of any new company.
2.There is an absorption of one or more existing
companies by one existing company.
3.There is only liquidation of absorbed company
while the absorbing company retains its legal entity.
External Reconstruction
External reconstruction is effected by liquidating the
company. It is just like by absorption.
In it a new company is formed to purchase the
business of an existing company.
The assets and liabilities of the existing company
are transferred to the newly formed company.
X ltd goes into liquidation and a new company Y ltd
comes into existence to take over the business of X ltd,
this is the case of the External Reconstruction.
Difference between Amalgamation,
Absorption & Reconstruction
Basis No
Distinction
of Amalgamation
Absorption
Reconstruction
1.Formation of a New company is No new company New company is
New Company.
formed in a
is
formed
in formed
in
Amalgamation.
absorption.
External
Reconstruction.
2.No
Liquidating At least two At
least
one One company is
Companies
companies wind company
is required to wind
up their business. required to wind up its business.
up its business.
3.Objective
The aim of the Generally weaker
amalgamation is units are taken
to remove the over by strong
competition
units
among
the
entities.
The aim of the
external
reconstruction is
to write off the
accumulated
losses
and
fictitious assets.
Basis No
Distinction
of Amalgamation
Absorption
4.Position
companies
of The position of The position of
the companies is purchasing
almost same.
company
is
comparatively
better
than
vendor company.
Reconstruction
The position of
vendor company
is bad because of
accumulated
losses
and
fictitious assets.
Purchase Consideration
Purchase Consideration refers to the amount paid by
the purchasing company to the vendor company
for the purchase of business.
The purchase consideration for amalgamation includes
the shares and other securities issued and payment
made in cash or other assets by the transferee
company to the shareholders of transferor company.
It should not include the amount of liabilities taken
over by transferee company, which will be paid
directly by this company.
Payments made to debenture holders should not
be considered as part of purchase consideration.
Methods of Purchase Consideration
1. Lump sum Method
2. On basis of Value of Shares or Shares Exchange Method
3. Net Payment Method.
4. Net Worth or Net Assets Method.
Lump sum Method
Under this method, purchased consideration is specified at
a particular figure and goodwill or capital reserve is
arrived at on the basis of this figure.
For example, a Company ABC ltd purchase the business of
the company XYZ ltd at an agreed price of Rs.10,00,000
in all. Here the amount of Rs. 10,00,000 is the purchase
consideration.
On basis of Value of Shares or Shares
Exchange Method
Under this method, the purchase consideration is required
to be calculated on the basis of intrinsic value of
shares.
Intrinsic value is calculated by dividing the net assets
available for equity shareholders by the number of
equity shares.
This value determines the ratio of exchange of
the shares between the transferee and
transferor companies.
Intrinsic value of share =
Net assets available for Equity Shareholders
Number of
equity
shares
E.g. Suppose A ltd and B ltd are two companies involved in
same business. Their capital is Rs. 6,00,000 and Rs.
2,00,000 (each of Rs.10).The two companies arrived to
amalgamate in AB ltd. If each share of A ltd and B ltd is
valued at Rs. 10 and Rs. 20 respectively for the purpose
of amalagmation, the purchase consideration will be as
under :
A ltd
B ltd
60000 shares@Rs.10 600000
20000 shares@Rs.20
400000
Note: While issuing shares to individual shareholders of
the selling company, these may be in fractions. A
company cannot issue shares in fraction but it can issue
fractional certificates or coupons or pay cash for the
fractions.
3.Net Payment Method.
Under this method the purchase consideration is arrived at by merely
adding every component of purchase consideration in
respect of which the purchasing company makes payment.
The following Points should be considered at the time of calculation
of purchase consideration:
1.The assets & liabilities taken over by the transferee co. are not to be
considered.
2. Any payment whether in cash or shares made by the transferee co.
for shareholders must be considered.
3. If creditors and debtors are taken over by transferee co. to
discharge subsequently such amount should not be considered in
purchase consideration.
4. If the liquidation expenses of the transfer co. are to be born by
transfer co., these should not be increased in purchase
consideration.
5. Any payments made by the transferee co. to some other party on
behalf of the transferor co. are to be ignored.
6. When liabilities are taken over by transferee co. they are neither
added or deducted to the amount of purchase consideration.
4.Net Worth or Net Assets Method.
Under this method, purchase consideration is the
difference between the value of the assets taken over
and the liabilities assumed.
Net asset or Net worth =
Assets taken over – Liabilities assumed
(at agreed value)
(at agreed value)
Important points to be considered :





Assets taken over by purchasing Co. should be valued at
agreed price.
All assets means not just the tangible assets e.g. cash and
bank but the intangible assets e.g. goodwill, trademarks etc.
all taken at agreed value.
The liabilities assumed by purchasing company are deducted
at their agreed value. The term liabilities does not include
undistributed profits like reserve fund ,general fund, share
premium, insurance fund.
The consideration for the amalgamation should include any
non-cash element at fair value. In case of issue of securities,
the value fixed by the statutory authorities may be taken to
be their fair value.
Where the scheme of amalgamation provide for an
adjustment to the consideration contingent on one or more
future events, the amount of additional payment should be
included in the consideration if payment is probable and a
reasonable estimate of the amount can be made.
The following entries should be passed in the books of
transferor and transferee companies in the case of
amalgamation
In books of Transferor co.
1. For transferring assets taken over by the transferee company.
Realisation a/c
Dr.
To Various assets (individually)(at book value)
Note : Assets on which some provisions has been made are to be
transferred to realisation account at their gross figures and provisions
made should be transferred along with liabilities.
2. For transferring liabilities taken over by the transferee company.
Various liabilities a/c
To Realisation a/c
Dr.
(at book value)
Note: Only those liabilities are to be transferred which have been
assumed by the transferee co. If there is any fund which partially
represents liability and partially represents undistributed profit, then
that portion which represents liability should be transferred to
realisation a/c.
3. For Purchase consideration
Transferee Company’s a/c
To Realisation a/c
Dr.
4. For receiving PC from the transferee Co.
Bank a/c
Shares in transferee Co. a/c
To Transferee Co a/c
Dr.
Dr.
5.For assets sold bt the transferor co. not taken over by the transferee co.
Bank a/c
Dr.
Realisation a/c (if loss on sale of assets)Dr.
To Assets a/c
To Realisation a/c (if profit on sale of assets)
6. For Liquidation Expenses
(a) If expenses are to be met by transferor co.
Realisation a/c
To Bank a/c
Dr.
(b)If Expenses are to be met by transferee co. there are two alternatives :
First alternative : No entry
Second alternative :
(i)
(ii)
Transferee Co. a/c
Dr.
To Bank a/c
Bank a/c
Dr.
To Transferee co.’s a/c
7. For liabilities not taken over by the transferee co. when paid by the
transferor co.
Various liabilities a/c
Dr.
Realisation a/c (if excess payment is made)
To Bank a/c
or
To Shares in transferee Co. a/c
To realisation a/c (if less payment is made)
8. For transferring preference share capital
Preference share capital a/c ..Dr.
Realisation a/c(if excess is to paid) ..Dr.
To Preference Shareholders a/c
To Realisation a/c (if less is to be paid)
9. Preference Share Holders ..Dr.
To equity/Preference Shares of transferee co.
Note : If the arrears of the dividend are to be paid to
preference Shareholders, then such excess amount
should be debited to realisation a/c and credited to
preference shareholders a/c. If the preference
shareholders have agreed to get less than the amount
of capital, then reverse entry is to be passed.
10. For closing Realisation a/c
(a)
If profit
Realisation a/c
To equity Shareholders a/c
(b)
If Loss
Equity shareholders a/c
To Realisation a/c
..Dr.
..Dr
11. For transferring equity share capital and accumulated profit
Equity Share Capital a/c
..Dr.
General reserve a/c
..Dr.
Debenture Redemption Fund a/c
..Dr.
Dividend equilisation Reserve a/c
..Dr.
Securities Premium a/c
..Dr.
Profit & Loss a/c
..Dr.
Accident Compensation Fund a/c
..Dr.
(to the extent it does not denote the liability)
Shares Forfeited a/c
..Dr.
Profit Prior to incorporation a/c
..Dr.
Any other reserve or Fund a/c
..Dr
To Equity shareholders a/c
12. For transferring accumulated losses and expenses not writtenoff
Equity shareholders a/c
..Dr.
To Profit & Loss a/c ( Debit balance)
To Discount or exp on issue of shares or
debentures a/c
To Preliminary Expenses
To Underwriting commission
13. For paying Shareholders
Equity Shareholders a/c
..Dr.
To Bank or Shares in Transferee co. a/c
Accounting entries in books of transferee Co.
There are two methods of accounting for amalgamation in
the books of transferee company :
1.The pooling of Interest Method
2.The purchase Method
Pooling of Interest method
The following journal entries are to be passed in books of
transferee co. for incorporating the financial statements of
the transferor co:
(1) On amalgamation of business
Business Purchase a/c
..Dr.(with amt of PC)
To Liquidators of Transferee Co. a/c
(2) For recording assets & liabilities taken over
Sundry assets(individually)
(Book Value)
To Sundry Liabilities(individually)
(Book Value)
To Reserves a/c
(Book Value)
To Business Purchase a/c
(Book Value)
Note :The difference between debits & credits is adjusted in
the reserves of transferee company.
Instead Of passing Two entries, one combined entry can be
passed.
Sundry assets a/c
..Dr
To Sundry Liabilities
To Different reserves of transferee co
To Liquidators of transferor Co.
(3) For making payment to the liquidator of transferor co.
Liquidators of transferor Co. a/c
Dr.
To Bank/Share Capital/Security Premium
(4) If Liquidation expenses are paid by the transferee company.
General reserve or Profit & Loss a/c
Dr.
To Bank a/c
(5) For formation expenses of the transferee co.
Preliminary Expenses a/c
To Bank a/c
Dr.
Purchase Method
The following Journal entries are passed in the books of
transferee company for incorporation of the financial
statements of the transferor co.
(1) For purchase of business from the transferor company :
Business Purchase a/c ..Dr.
(For PC)
To Liquidation of transferor co.
(2) For recording assets & liabilities taken over
Various assets a/c ..Dr. (at revised value, if any otherwise
at book value)
To various Liabilities a/c (with figures at which
they are taken over)
To Business Purchase a/c
Note : If credit is more than debit it is debited to Goodwill a/c
but if the debit is more than credit then it is credited to
capital reserve a/c.
(3) For making payment to the liquidator of the vendor company :
Liquidators of transferor co. a/c
To Bank a/c
To Share Capital a/c
..Dr
(4) When Statutory Reserve is maintained
Amalgamation adjustment a/c
To Statutory Reserve a/c
..Dr
(5) If liquidation exp are paid by transferee co.
Goodwill a/c
To Bank
..Dr
(6) For Formation exp of transferee co.
Preliminary Expenses a/c
To Bank a/c
..Dr
(7) When goodwill is written off against Capital reserve
Capital reserve a/c
To Goodwill a/c
..Dr.
(8) If any liability is discharged by the transferee company
Respective Liability a/c
..Dr. (with payable amount)
To Share capital/debentures/bank a/c
Distinguish between Amalgamation in
nature of merger and Amalgamation in
nature of purchase
In nature of Merger
In nature of Purchase
1. In this case transferee co. must 1.Transferee co may or may not acquire
acquire whole business of the all assets and liabilities of the transferor
transferor co which includes all assets co.
and liabilities of the transferor
company.
2. Shareholders having 90% of the 2.This condition is not applicable in case
face value of equity shares of of amalgamation in the nature of
transferor co become the equity purchase.
shareholders of the transferee co.
3.The claim of equity shareholders 3.The claim of equity shareholders of
of the transferor co must be transferor company may be discharged
discharged by transferee co by issuing by issuing equity shares or cash.
equity shares only, except in case of
fractional shares.
In nature of merger
In nature of purchase
4.All assets & liabilities of the 4. Assets & Liabilities of transferor co
transferor co are taken over by may be taken at book value or agreed
transferee co at book value as shown value, as per their agreement.
by the balance sheet of the transferor
co on the date of amalgamation.
5. Difference between purchase 5. Such difference is taken as goodwill
consideration and net worth is taken or capital reserve as the case may be.
as general reserve or net profit and loss
a/c.