Question

Explain what consideration is. For the items listed below, which could be included in the calculation of consideration and how should their values be calculated? For those that do not belong in the calculation of consideration, how should they be accounted for? Explain in detail.

Brand name transferred by the acquirer

Consultant fees associated with the business combination

Contingent consideration payable if share price falls

Cash due in 1 years’ time

Shares issued by the acquirer, but they are not a listed company

Land and building transferred by the acquirer

Costs related to issue of shares

Answer 1

Solution:

Consideration (or purchase consideration) is the payment agreed by the Parent (or purchasing company) company to purchase the shares in the subsidiary company to amalgamate with the subsidiary company (or vendor company). The purchasing company can purchase the vendor company either in form of cash, shares, assets, or in any other form which is agreed upon by the company.

Calculation of purchase consideration:

The purchase consideration can be calculated under net asset method, net payment method, lumpsum method, and intrinsic value/share exchange method. From the items listed, the items included in the calculation of consideration are.

• Brand name transferred to acquirer
• Contingent consideration payable if share price falls
• Shares issued by the acquirer, but they are not a listed company
• Land and building transferred by the acquirer

Brand name transferred to acquirer:

The brand name of the company is an intangible asset. However, it is considered as identifiable asset. The excess amount the purchasing company pays in the purchase consideration that is over the total value of Asset minus liabilities is known as goodwill or brand name.

Goodwill is valued as any amount that is paid in excess of net asset (i.e Assets – Liabilities (liabilities does not include common stock)) of the company. Goodwill can also be valued as any amount that is paid in excess of the transfer price of the common stock of the subsidiary company.

The goodwill purchased cannot be amortized. However, the management values the worth of goodwill to determine if there is impairment required for the goodwill.

Contingent consideration payable if share price falls.

Contingent considerations are decided at the time of purchase of the company. Contingent consideration is the compensation paid by the purchasing company to the subsidiary company on the occurring of a future event.

The compensation paid is considered as a contingent expense and is recorded after the post-acquisition of the company. It will not be accounted at the time of the purchase of the company but recorded after the post-acquisition.

Shares issued by the acquirer.

This is called intrinsic value method where the payment is made to the subsidiary company in the form of shares of the purchasing company.

The net asset of the subsidiary company is determined and it is divided by the value of one share of the transferee company. This gives the total number of shares that needs to be allocated to the shareholders of the transferrer company.

Land and building transferred by the acquirer.

The shareholders of the transferrer company receive the land and building of the transferee company in exchange of shares of the transferrer company.

Consultant fees associated with the business combination:

It will be treated as expense and will appear in the income statement for the period it is incurred.

Cash due in 1-year time:

It will be treated as Notes payable and will appear in the liability side of the balance sheet.

Cost related to the issue of shares:

It will be treated as expense and will appear in the income statement for the period it is incurred.