(note 3)
relating to a transaction recorded directly in
equity may be recognised in equity. (note 2)
Investment written off or tested for
impairment.
Notes
(1) If the parent established the subsidiary itself and its investment reflects only share capital it has injected
an excess of the carrying value over the net assets received will not be recognised as goodwill. This
generally arises because of losses incurred by the transferred subsidiary.
If the subsidiary’s net assets exceed the carrying value of the investment then this will be due to profits
or other comprehensive income retained in equity.
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(2) The catch up adjustment is not an equity transaction so all of it can be recognised in income. However, to
the extent that it has arisen from a transaction that had occurred directly in equity, such as a revaluation, an
entity can make a policy choice to recognise this element in equity. In this case the remaining amount is
recognised in income. The entity can also take a view that as although the transfer of business is a current
period transaction, the differences relate to prior period and hence should be recognised in equity.
(3) Because this was originally an acquisition, the values in the consolidated financial statements (and not
the subsidiary’s underlying records) become ‘cost’ for the parent. The assets and liabilities will reflect
fair value adjustments made at the time of the business combination. Goodwill or negative goodwill will
be the amount as at the date of the original acquisition.
If the business of the acquired subsidiary is transferred to the parent company as a
distribution shortly after acquisition of that subsidiary, the accounting shall follow
IAS 27 in relation to the dividend payment by the subsidiary. It might be accounted for
effectively as a return of capital. The parent eliminates its investment in the subsidiary
or part of its investment (based on the relative fair value of the business transferred
compared to the value of the subsidiary), recognising instead the assets and liabilities of
the business acquired at their fair value including the goodwill that has arisen on the
business combination. The effect is to reflect the substance of the arrangement which
is that the parent acquired a business. Comparative data is not restated in this case.
4.4.3.B
Legal merger of parent and subsidiary
A legal merger can occur for numerous reasons, including facilitating a listing or
structuring to transfer the borrowings obtained to acquire an entity to be repaid by the
entity itself or to achieve tax benefits. Legal mergers always affect the individual or
separate financial statements of the entities involved. As legal mergers are not specifically
discussed in IFRS, different views and approaches are encountered in practice.
In many jurisdictions it is possible to effect a ‘legal merger’ of a parent and its subsidiary
whereby the two separate entities become a single entity without any issue of shares or
other consideration. This is usually the case when there is a legal merger of a parent with its
100% owned subsidiary. Depending on the jurisdiction, different scenarios might take place.
It is not uncommon for a new entity to be formed as a vehicle used in the acquisition of
an entity from a third party in a separate transaction. Subsequently both entities legally
merge. Judgement is required to make an assessment as to whether a legal merger occurs
‘close to’ the date of acquisition, including considering the substance of the transaction
and the reasons for structuring. If this is the case i.e. a new entity is formed concurrently
with (or near the date of) the acquisition of a subsidiary, and there is a legal merger of
the new entity and the subsidiary, these transactions are viewed as a single transaction
in which a subsidiary is acquired and is discussed in Chapter 9.
Even though the substance of the legal merger may be the same, whether the survivor
is the parent or subsidiary affects the accounting.
a)
The parent is the surviving entity
The parent’s consolidated financial statements
The legal merger of the parent and its subsidiary does not affect the consolidated
financial statements of the group. Only when non-controlling interests (NCI) are
acquired in conjunction with the legal merger transaction, is the transaction with the
Separate and individual financial statements 579
NCI holders accounted for as a separate equity transaction (i.e. transactions with owners
in their capacity as owners). [IFRS 10.23].
Even if there is no consolidated group after the legal merger, according to IFRS 10
consolidated financial statements are still required (including comparative financial
statements) in the reporting period in which the legal merger occurs. Individual financial
statements are the continuation of the consolidated group – in subsequent reporting
periods, the amounts are carried forward from the consolidated financial statements
(and shown as the comparative financial statements).
In the reporting period in which the legal merger occurs the parent is also permitted,
but not required, to present separate financial statements under IFRS.
Separate financial statements
In the parent’s separate financial statements two approaches are available, if the
investment in the subsidiary was previously measured at cost. An entity chooses its
policy and applies it consistently. Under both approaches, any amounts that were
previously recognised in the parent’s separate financial statements continue to be
recognised at the same amount, except for the investment in the subsidiary that is
merged into the parent.
We believe that approach (i) below, a distribution at fair value, is the preferable
approach, but approach (ii) below, liquidation from the consolidated financial
statements, is also acceptable.
(i) The legal merger is in substance the distribution of the business from subsidiary to
the parent.
The investment in the subsidiary is first re-measured to fair value as at the date of
the legal merger, with any resulting gain recognised in profit or loss. The
investment in the subsidiary is then de-recognised. The acquired assets (including
investments in subsidiaries, associates, or joint ventures held by the merged
subsidiary) and assumed liabilities are recognised at fair value. Any difference gives
rise to goodwill or income (bargain purchase, which is recognised in profit or loss).
(ii) The legal merger is in substance the redemption of shares in the subsidiary, in
exchange for the underlying assets of the subsidiary.
Giving up the shares for the underlying assets is essentially a change in
perspective of the parent of its investment, from a ‘direct equity interest’ to
‘the reported results and net assets.’ Hence, the values recognised in the
consolidated financial statements become the cost of these assets for the
parent. The acquired assets (including investments in subsidiaries, associates,
or joint ventures held by the merged subsidiary) and assumed liabilities are
recognised at the carrying amounts in the consolidated financial statements as
of the date of
the legal merger. This includes any associated goodwill,
intangible assets, or other adjustments arising from measurement at fair value
upon acquisition that were recognised when the subsidiary was originally
acquired, less the subsequent related amortisation, depreciation, impairment
losses, as applicable.
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The difference between:
(1) the amounts assigned to the assets and liabilities in the parent’s separate
financial statements after the legal merger; and
(2) the carrying amount of the investment in the merged subsidiary before the
legal merger;
is recognised in one of the following (accounting policy choice):
• profit or loss;
• directly in equity; or
• allocated to the appropriate component in the separate financial statements
in the current period (e.g. current period profit or loss, current period other
comprehensive income, or directly to equity) of the parent based on the
component in which they were recognised in the financial statements of the
merged subsidiary.
If the investment in the subsidiary was measured at fair value in the separate financial
statements of the parent then only method (i) is applicable, because there is a direct
swap of the investment with the underlying business. The parent would already have
reflected the results of transactions that the subsidiary entered into since making its
investment. Because the underlying investment in the subsidiary is de-recognised, this
also triggers the reclassification of any amounts previously recognised in other
comprehensive income and accumulated within a separate component of equity to be
recognised in profit or loss.
In the separate financial statements, regardless of which approaches or varieties of
approaches are used, comparative information should not be restated to include the
merged subsidiary. The financial position and results of operations of the merged
subsidiary are reflected in the separate financial statements only from the date on which
the merger occurred.
b)
The subsidiary is the surviving entity
Some argue that the legal form of a merger is more important in the context of the
individual financial statements or separate financial statements of the subsidiary as these
have a different purpose, being the financial statements of a legal entity. Others contend
that as the legal mergers are not regulated in IFRS the accounting policy selected should
reflect the economic substance of transactions, and not merely the legal form. This
results in two possible approaches. We believe that approach (i) below, the economic
approach, is the preferable approach and generally provides the most faithful
representation of the transaction. However, approach (ii) below, the legal approach,
may be appropriate when facts and circumstances indicate that the needs of the users
of the general-purpose financial statements after the legal merger are best served by
using the financial statements of the surviving subsidiary as the predecessor financial
statements. This need must outweigh the needs of users who previously relied upon the
general-purpose financial statements of the parent (as such information might no longer
be available e.g. where following the merger there is no group). Consideration is given
as to whether either set of users can otherwise obtain the information needed using
special-purpose financial statements.
Separate and individual financial statements 581
(i) The
economic
approach
The legal merger between the parent and subsidiary is considered to have no
substance. The amounts recognised after the legal merger are the amounts that
were previously in the consolidated financial statements, including goodwill and
intangible assets recognised upon acquisition of that subsidiary. The consolidated
financial statements after the legal merger also reflect any amounts in the
consolidated financial statements (pre-merger) related to subsidiaries, associates,
and joint ventures held by the surviving subsidiary. If the surviving subsidiary
prepares separate financial statements after the legal merger, the subsidiary
recognises the amounts that were previously recognised in the consolidated
financial statements of the parent, as a contribution from the parent in equity.
(ii) The legal approach
The financial statements after the legal merger reflect the legal form of the
transaction from the perspective of the subsidiary. There are two methods (as
described below) with respect to recognising the identifiable assets acquired of the
parent or liabilities assumed from the parent; regardless of which is used, amounts
recognised previously in the consolidated financial statements with respect to the
parent’s acquisition of the surviving subsidiary (e.g. goodwill, intangible assets, fair
value purchase price adjustments) are not recognised by the subsidiary. The
surviving subsidiary does not recognise any change in the basis of subsidiaries,
associates and joint ventures that it held before the legal merger.
Fair value method
If a merged parent meets a definition of business, the transaction is accounted for
as an acquisition, with the consideration being a ‘contribution’ from the parent
recognised in equity at fair value. Principles in IFRS 3 apply then by analogy.
The subsidiary recognises:
(1) the identifiable assets acquired and liabilities assumed from the parent at fair
value;
(2) the fair value of the parent as a business as a contribution to equity; and
(3) the difference between (1) and (2) as goodwill or gain on a bargain purchase.
If the merged parent does not meet the definition of a business, the identifiable
assets acquired or liabilities assumed are recognised on a relative fair value basis.
Book value method
Under this method the subsidiary accounts for the transaction as a contribution
from the parent at book values. The subsidiary recognises the identifiable assets
acquired or liabilities assumed from the parent at the historical carrying amount
and the difference in equity. The historical carrying amounts might be the carrying
amounts previously recognised in the parent’s separate financial statements, the
amounts in the ultimate parent’s consolidated financial statements, or in a sub-level
consolidation (prior to the merger).
Whatever variation of the legal approach is applied, the subsidiary may not recognise
amounts that were previously recognised in the consolidated financial statements that
related to the operations of the subsidiary, because there is no basis in IFRS for the
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subsidiary to recognise fair value adjustments to its internally generated assets or
goodwill that were recognised by its parent when it was first acquired. Therefore, the
carrying amount of the assets (including investments in subsidiaries, associates, and joint
ventures) and liabilities held by subsidiary are the same both before and after a legal
merger (there is no revaluation to fair value). There is also no push-down accounting of
any goodwill or fair value adjustments recognised in t
he consolidated financial
statements related to the assets and liabilities of the subsidiary that were recognised
when the parent acquired the subsidiary.
In the separate financial statements, regardless of which approaches or varieties of
approaches are used, comparative information should not be restated to include the
merged parent. The financial position and results of operations of the merged parent
are reflected in the separate financial statements only from the date on which the
merger occurred.
4.4.4
Incurring expenses and settling liabilities without recharges
Entities may incur costs that provide a benefit to fellow group entities, e.g. audit,
management or advertising fees, and do not recharge the costs. The beneficiary is
not party to the transaction and does not directly incur an obligation to settle a
liability. It may elect to recognise the cost, in which case it will charge profit or
loss and credit equity with equivalent amounts; there will be no change to its net
assets. If the expense is incurred by the parent, it could elect to increase the
investment in the subsidiary rather than expensing the amount. This could lead to
a carrying value that might be impaired. Fellow subsidiaries may expense the cost
or recognise a distribution to the parent directly in equity. There is no policy
choice if the expense relates to a share-based payment, in which case IFRS 2
mandates that expenses incurred for a subsidiary be added to the carrying amount
of the investment in the parent and be recognised by the subsidiary (see
Chapter 30 at 12).
Many groups recharge expenses indirectly, by making management charges, or recoup
the funds through intra-group dividends, and in these circumstances it would be
inappropriate to recognise the transaction in any entity other than the one that makes
the payment.
A parent or other group entity may settle a liability on behalf of a subsidiary. If this is
not recharged, the liability will have been extinguished in the entity’s accounts. This
raises the question of whether the gain should be taken to profit or loss or to equity.
IFRS 15 – Revenue from Contracts with Customers – defines income as increases in
economic benefits during the accounting period in the form of inflows or enhancements
International GAAP® 2019: Generally Accepted Accounting Practice under International Financial Reporting Standards Page 115
