International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards
Page 114
may be recognised at cost under IAS 27 as discussed at 2.1 above. Following the
principles described at 4.3 above, the entity receiving the asset has a choice: recognise
it at zero or at fair value. It is in practice more common for an entity that has received
an asset in what is purely an equity transaction to recognise it at fair value.
The entity that gives away the asset must reflect the transaction. A parent that makes a
specie capital contribution to its subsidiary will recognise an increased investment in that
subsidiary (in principle at fair value, recognising a gain or loss based on the difference from
the carrying amount of the asset) provided the increase does not result in the impairment of
the investment, or an expense (based on the carrying amount of the asset given away). A
subsidiary that makes a distribution in specie to its parent might account for the transaction
Separate and individual financial statements 573
by derecognising the distributed asset at its carrying value against retained earnings.
However, the subsidiary could also account for the distribution at fair value, if the fair value
could be established reliably. This would potentially result in recognising a gain in profit or
loss for the difference between the fair value of the asset and its carrying value. There would
also be a charge to equity for the distribution, recognised and measured at the fair value of
the asset. This is consistent with IFRIC 17, although the distribution is not in scope.
4.4.1.E
Transfers between subsidiaries
As noted at 4.2 above, similar principles apply when the arrangement is between two
subsidiaries rather than a subsidiary and parent. To illustrate this, assume that the transaction
in Example 8.6 above takes place between two subsidiaries rather than parent and subsidiary.
Example 8.8:
Transactions between subsidiaries
The facts are as in Example 8.6 above except that Subsidiary A sells PP&E that has a carrying amount of €50
and a fair value of €100 to its fellow-subsidiary B for cash of €80. As before, it is assumed that fair value can
be measured reliably.
Method (a)
Method (b)
Recognise the transaction at fair value, regardless Recognise the transaction at the consideration
of the values in any agreement, with any difference
agreed between the parties, being the amount of
between that amount and fair value recognised as cash paid.
an equity transaction.
Subsidiary A
€ €
€ €
Dr Cash
80
Dr Cash
80
Dr Equity (Note 1)
20
Cr PP&E
50
Cr PP&E
50
Cr Gain (profit or loss)
30
Cr Gain (profit or loss)
50
Subsidiary B
€ €
€ €
Dr PP&E
100
Dr PP&E
80
Cr Cash
80
Cr Cash
80
Cr Equity (Note 1)
20
Note 1
From subsidiary A’s perspective there is an equity element to the transaction representing the difference
between the fair value of the asset and the contractual consideration. This reflects the amount by which the
transaction has reduced A’s fair value and has been shown as a distribution by A to its parent. From
subsidiary B’s perspective, the equity element is a capital contribution from the parent.
Parent (Note 2)
€ €
Dr Investment in B
20
No entries made
Cr Investment in A
20
Note 2
Parent can choose to reallocate the equity element of the transaction between its two subsidiaries so as to
reflect the changes in value.
574 Chapter
8
In some circumstances the transfer of an asset from one subsidiary to another may affect
the value of the transferor’s assets to such an extent as to be an indicator of impairment
in respect of the parent’s investment in its shares. This can happen if the parent acquired
the subsidiary for an amount that includes goodwill and the assets generating part or all
of that goodwill have been transferred to another subsidiary. As a result, the carrying
value of the shares in the parent may exceed the fair value or VIU of the remaining
assets. This is discussed further in Chapter 20 at 12.3.
4.4.2
Acquiring and selling businesses – transfers between subsidiaries
One group entity may sell, and another may purchase, the net assets of a business rather
than the shares in the entity. The acquisition may be for cash or shares and both entities
must record the transaction in their individual financial statements. There can also be
transfers for no consideration. As this chapter only addresses transactions between
entities under common control, any arrangement described in this section from the
perspective of the transferee will be as common control transactions out of scope of
IFRS 3. The common control exemption is discussed in Chapter 10 at 2.
If the arrangement is a business combination for the acquiring entity it will also not be
within scope of IFRS 2. [IFRS 2.5].
The transferor needs to recognise the transfer of a business under common control. If
the consideration received does not represent fair value of the business transferred or
there is the transfer without any consideration, the principles described in 4.4.2.C below
should be applied to decide whether any equity element is recognised.
4.4.2.A
Has a business been acquired?
IFRS 3 defines a business as ‘an integrated set of activities and assets that is capable of
being conducted and managed for the purpose of providing a return in the form of
dividends, lower costs or other economic benefits directly to investors or other owners,
members or participants’. [IFRS 3 Appendix A]. See Chapter 9 at 3.2 for descriptions of the
features of a business.
4.4.2.B
If a business has been acquired, how should it be accounted for?
As described in Chapter 10 at 3, we believe that until such time as the IASB finalises
its conclusions under its project on common control transactions entities should
apply either:
(a) the pooling of interest method; or
(b) the acquisition method (as in IFRS 3).
In our view, where the acquisition method of accounting is selected, the transaction
must have substance from the perspective of the reporting entity. This is because the
method results in a reassessment of the value of the net assets of one or more of the
entities involved and/or the recognition of goodwill. Chapter 10 discusses the factors
that will give substance to a transaction and although this is written primarily in the
context of the acquisition of an entity by another entity, it applies equally to the
acquisition of a business by an entity or a legal merger of two subsidiaries.
Separate and individual financial statements 575
4.4.2.C
Purchase and sale of a business for equity or cash not representative of
the fair value of the business
• recognise the transaction at fair value, regardless of the values in any agreement,
with any difference between that amount and fair value recognised as an equity
transaction; or
• recognise the transaction at the consideration agreed between the parties, being
the amount of cash paid or fair value of shares issued.
From the perspective of the acquirer of the business, the above choice matters only
when the acquisition method is applied in accounting for the business acquired.
Depending on which approach is applied, goodwill on the acquisition may be different
(or there can even be a gain on bargain purchase recognised). This is discussed further
in Chapter 10 at 3.2. When the pooling of interest method is applied, the difference
between the consideration paid and carrying value of net assets received is always
recognised in equity no matter whether the consideration agreed between the parties
represents the fair value of the business. If no consideration is payable for the transfer
of the business, this could affect the assessment as to whether the transaction has
substance to enable the acquisition method to be applied.
From the perspective of the seller of the business, the choice will impact any gain or
loss recognised on the disposal. Recognising the transaction on the basis of the
consideration agreed will result in a gain or loss based on the difference between the
consideration received and the carrying value of the business disposed. Recognising the
transaction at fair value including an equity element imputed will result in the gain or
loss being the difference between the fair value of the business and its carrying value. If
no consideration is received for the transfer of the business, the transaction may be
considered to be more in the nature of a distribution in specie, the accounting for which
is discussed at 4.4.1.D above.
4.4.2.D
If the net assets are not a business, how should the transactions be
accounted for?
Even though one entity acquires the net assets of another, this is not necessarily a
business combination. IFRS 3 rules out of scope acquisitions of assets or net assets that
are not businesses, noting that:
‘This IFRS does not apply to [...] the acquisition of an asset or a group of assets that
does not constitute a business. In such cases the acquirer shall identify and recognise
the individual identifiable assets acquired (including those assets that meet the
definition of, and recognition criteria for, intangible assets in IAS 38 Intangible Assets)
and liabilities assumed. The cost of the group shall be allocated to the individual
identifiable assets and liabilities on the basis of their relative fair values at the date of
purchase. Such a transaction or event does not give rise to goodwill.’ [IFRS 3.2(b)].
If the acquisition is not a business combination, it will be an acquisition of assets for cash
or shares or for no consideration (see 4.4.1.A, 4.4.1.C and 4.4.1.D above).
576 Chapter
8
4.4.3
Transfers of businesses between parent and subsidiary
As an acquisition of a business by a subsidiary from its parent in exchange for cash, other
assets or equity instruments may meet the definition of a business combination, the
guidance provided in 4.4.2 above is applicable. Therefore this section mainly deals with
the transfer of a business from a subsidiary to its parent.
A feature that all transfers of businesses to parent entities have in common, whatever the
legal form that they take, is that it is difficult to categorise them as business combinations.
There is no acquirer whose actions result in it obtaining control of an acquired business;
the parent already controlled the business that has been transferred to it.
A transfer without any consideration is comparable to a distribution by a subsidiary to
its parent. The transfer can be a dividend but there are other legal arrangements that
have similar effect that include reorganisations sanctioned by a court process or
transfers after liquidation of the transferor entity. Some jurisdictions allow a legal
merger between a parent and subsidiary to form a single entity. The general issues
related to distributions of business are addressed in 4.4.3.A below, while the special
concerns raised by legal mergers are addressed in 4.4.3.B below.
4.4.3.A
Distributions of businesses without consideration – subsidiary
transferring business to the parent.
From one perspective the transfer is a distribution and the model on which to base the
accounting is that of receiving a dividend. Another view is that the parent has exchanged
the investment in shares for the underlying assets and this is essentially a change in
perspective from an equity interest to a direct investment in the net assets and results.
Neither analogy is perfect, although both have their supporters.
In all circumstances, the following two major features will impact the accounting of the
transfer by the parent:
• whether the subsidiary transfers the entirety of its business or only part of it; and
• whether the transfer is accounted for at fair value or at ‘book value’.
Book value in turn may depend on whether the subsidiary has been acquired by the parent,
in which case the relevant book values would be those reflected in the consolidated
financial statements of the parent, rather than those in the subsidiary’s financial statements.
The two perspectives (dividend approach and exchange of investment for assets)
translate into two approaches to accounting by the parent:
(i) Parent effectively has received a distribution that it accounts for in its income
statement at the fair value of the business received. It reflects the assets acquired and
liabilities assumed at their fair value, including goodwill, which will be measured as at
the date of the transfer. The existing investment is written off to the income statement:
• this treatment can be applied in all circumstances;
• this is the only appropriate method when the parent carries its investment in
shares at fair value applying IFRS 9;
• when the subsidiary transfers one of its businesses but continues to exist, the
investment is not immediately written off to the income statement, but is
subject to impairment testing.
Separate and individual financial statements 577
(ii) Parent has exchanged its investment or part of its investment for the underlying
assets and liabilities of the subsidiary and accounts for them at book values. The
values that are reported in the consolidated financial statements become the cost
of these assets for the parent.
• This method is not appropriate if the investment in the parent is carried at fair
value, in which case method (i) must be applied.
• When the subsidiary transfers one of its businesses but continues to exist, the
investment is not immediately written off to the income statement, but is
subject to impairment testing.
The two linked questions when using this approach are how to categorise the
difference between the carrying value of the investment and the assets transferred
and whether or not to reflect goodwill or an ‘excess’ (negative goodwill) in the
parent’s financial statements. This will depend primarily on whether the subsidiary
had been acquired by the parent (the only circumstances in which this approach
allows goodwill in the parent’s financial statements after the transfer) and how any
remaining ‘catch up’ adjustment is classified.
These alternative treatments are summarised in the following table:
Subsidiary set
Basis of accounting
Goodwill recognised
Effect on income statement
up or acquired
Subsidiary set
Fair value.
Goodwill or negative
Dividend recognised at fair value of the
up by parent
goodwill at date of
business.
transfer.
Investment written off or tested for
impairment.
Book value from
No goodwill or
Catch up adjustment recognised fully in
underlying records.
negative goodwill.
equity or as income, except that the element
(note 1)
relating to a transaction recorded directly in
equity may be recognised in equity. (note 2)
Investment written off or tested for
impairment.
Subsidiary
Fair value.
Goodwill or negative
Dividend recognised at fair value of the
acquired by
goodwill at date of
business.
parent
transfer.
Investment written off or tested for
impairment.
Book value from
Goodwill as at date of
Catch up adjustment recognised fully in
consolidated accounts.
original acquisition.
equity or as income, except that the element
(note 3)