Fare value of shares at acqusition

Hello Sir, In the following question They said that the fare price of shares at acquisition is $ 1.2 so, for calculation of NCI at the reporting date I would do the following : $000 Share capital 20000 * 1 = $20000 Share premium 20000 * .2 = $ 4000 Total = $24000 Add : Total Post acquisition R.E= 11200 Total = 35200 to get the NCI Multiply by 25% = 8800 the same figure as they shown in the book answer is that ok ,we must change the breakup of capital as per the new fare value of shares ($1.2),or otherwise we will not get the correct amount, because in your lectures you said to to take share capital of NCI as it was at acquisition, so that was little bit confusing to me Thanks, ------------------------------------------------------------------------------------------------------------------------ On 1 October 20X2, Paradigm acquired 75% of Strata’s equity shares by means of a share exchange of two new shares in Paradigm for every five acquired shares in Strata. In addition, Paradigm issued to the shareholders of Strata a $100 10% loan note for every 1,000 shares it acquired in Strata. Paradigm has not recorded any of the purchase consideration, although it does have other 10% loan notes already in issue. The market value of Paradigm’s shares at 1 October 20X2 was $2 each. The summarised statements of financial position of the two entities as at 31 March 20X3 are: Paradigm Strata Assets $000 $000 Non?current assets Property, plant and equipment 47,400 25,500 Financial asset: equity investments (notes (i) and (iii)) 7,500 3,200 ––––––– ––––––– 54,900 28,700 Current assets Inventory (note (ii)) 20,400 8,400 Trade receivables 14,800 9,000 Bank 2,100 nil ––––––– ––––––– Total assets 92,200 46,100 ––––––– ––––––– Equity and liabilities Equity Equity shares of $1 each 40,000 20,000 Retained earnings/(losses) – at 1 April 20X2 19,200 (4,000) – for year ended 31 March 20X3 7,400 8,000 ––––––– ––––––– 66,600 24,000 Non?current liabilities 10% loan notes 8,000 nil Current liabilities Trade payables 17,600 13,000 Bank overdraft nil 9,100 ––––––– ––––––– Total equity and liabilities 92,200 46,100 ––––––– ––––––– The following information is relevant: (i) At the date of acquisition, Strata produced a draft statement of profit or loss which showed it had made a net loss after tax of $2 million at that date. Paradigm accepted this figure as the basis for calculating the pre? and post?acquisition split of Strata’s profit for the year ended 31 March 20X3. Also at the date of acquisition, Paradigm conducted a fair value exercise on Strata’s net assets which were equal to their carrying amounts (including Strata’s financial asset equity investments) with the exception of an item of plant which had a fair value of $3 million below its carrying amount. The plant had a remaining useful life of three years at 1 October 20X2. Paradigm’s policy is to value the non?controlling interest at fair value at the date of acquisition. For this purpose, a share price for Strata of $1.20 each is representative of the fair value of the shares held by the non?controlling interest. (ii) Each month since acquisition, Paradigm’ssalesto Strata were consistently $4.6 million. Paradigm had marked these up by 15% on cost. Strata had one month’s supply ($4.6 million) of these goods in inventory at 31 March 20X3. Paradigm’s normal mark?up (to third party customers) is 40%. (iii) The financial asset equity investments of Paradigm and Strata are carried at their fair values as at 1 April 20X2. As at 31 March 20X3, these had fair values of $7.1 million and $3.9 million respectively. (iv) There were no impairment losses within the group during the year ended 31 March 20X3. Required: (a) Prepare the consolidated statement of financial position for Paradigm as at 31 March 20X3. (15 marks) (b) A financial assistant has observed that the fair value exercise means that a subsidiary’s net assets are included at acquisition at their fair (current) values in the consolidated statement of financial position. The assistant believes that it is inconsistent to aggregate the subsidiary’s net assets with those of the parent because most of the parent’s assets are carried at historical cost. Required: Comment on the assistant’s observation and explain why the net assets of acquired subsidiaries are consolidated at acquisition at their fair values. (5 marks) -------------------------------------------- Answer PARADIGM (a) Paradigm – Consolidated statement of financial position as at 31 March 20X3 $000 $000 Assets Non?current assets: Property, plant and equipment (47,400 + 25,500 – 3,000 fair value + 500 depreciation) 70,400 Goodwill (W3) 8,500 Financial asset: equity investments (7,100 + 3,900) 11,000 ––––––– 89,900 Current assets Inventory (20,400 + 8,400 – 600 PUP (W6)) 28,200 Trade receivables (14,800 + 9,000) 23,800 Bank 2,100 –––––– 54,100 ––––––– Total assets 144,000 ––––––– Equity and liabilities Equity attributable to owners of the parent Equity shares of $1 each (40,000 + 6,000 (W3)) 46,000 Share premium (W3) 6,000 Retained earnings (W5) 33,925 Non?controlling interest (W4) 8,800 ––––––– Total equity 94,725 10% loan notes (8,000 + 1,500 (W3)) 9,500 Current liabilities Trade payables (17,600 + 13,000 + 75 interest (W7)) 30,675 Bank overdraft 9,100 –––––– 39,775 ––––––– Total equity and liabilities 144,000 ––––––– Workings (W1) Group structure Paradigm 75% Strata (6 months) (W2) Net assets At acquisition At reporting date Post? acquisition $000 $000 $000 Share capital 20,000 20,000 – Retained earnings (6,000) 4,000 10,000 Fair value adjustment (3,000) (3,000) – Fair value depreciation (3,000 × 6 /36) 500 500 Gain on equity investment 700 700 –––––– –––––– –––––– 11,000 22,200 11,200 –––––– –––––– –––––– (W3) Goodwill $000 Share exchange ((20,000 × 75%) × 2 /5 × $2) 12,000 10% loan notes (15,000 × $100/1,000) 1,500 Non?controlling interest (20,000 × 25% × $1.20) 6,000 Less: Fair value of net assets at acquisition (W2) (11,000) –––––– Goodwill on acquisition 8,500 –––––– The market value of the shares issued of $12 million would be recorded as $6 million share capital and $6 million share premium as the shares have a nominal value of $1 each and an issue value of $2 each. (W4) Non?controlling interest $000 Fair value on acquisition (W3) 6,000 Post?acquisition profits (11,200 (W2) × 25%) 2,800 ––––– 8,800 ––––– (W5) Group retained earnings $000 Paradigm’s retained earnings (19,200 + 7,400) 26,600 Strata’s post?acquisition profit (11,200 (W2) × 75%) 8,400 PUP in inventory (4,600 × 15/115) (600) Loss on equity investments (7,500 – 7,100) (400) Additional loan note interest (1,500 × 10% × 6 /12) (75) –––––– 33,925 –––––– (b) IFRS 3 Business Combinations requires the purchase consideration for an acquired entity to be allocated to the fair value of the assets, liabilities and contingent liabilities acquired (henceforth referred to as net assets) with any residue being allocated to goodwill. This also means that those net assets will be recorded at fair value in the consolidated statement of financial position. This is entirely consistent with the way other net assets are recorded when first transacted (i.e. the initial cost of an asset is normally its fair value). This ensures that individual assets and liabilities are correctly valued in the consolidated statement of financial position. Whilst this may sound obvious, consider what would happen if say a property had a carrying amount of $5 million, but a fair value of $7 million at the date it was acquired. If the carrying amount rather than the fair value was used in the consolidation it would mean that tangible assets (property, plant and equipment) would be understated by $2 million and intangible assets (goodwill) would be overstated by the same amount. There could also be a ‘knock?on’ effect with incorrect depreciation charges in the years following an acquisition and incorrect calculation of any goodwill impairment. Thus the use of carrying amountsrather than fair values would not give a ‘faithful representation’ as required by the Framework. The assistant’s commentregarding the inconsistency of valuemodelsin the consolidated statement of financial position is a fair point, but it is really a deficiency of the historical cost concept rather than a flawed consolidation technique. Indeed the fair value of the subsidiary’s net assets represent the historical cost to the parent. To overcome much of the inconsistency, there would be nothing to prevent the parent from applying the revaluation model to its property, plant and equipment.