IFRS Determining the amount of goodwill and minority interest
IFRS Determining the amount of goodwill and minority interest:The traditional measurement of goodwill on the acquisition of a subsidiary is the excess of the fair value of the consideration given by the parent over the parent’s share of the fair value of the net assets acquired. This method can be referred to as the proportionate method. It determines only the goodwill that is attributable to the parent company.
The new method of measuring goodwill on the acquisition of the subsidiary is to compare the fair value of the whole of the subsidiary (as represented by the fair value of the consideration given by the parent and the fair value of the non controlling interest) with all of the fair value of the net assets of the subsidiary acquired. This method can be referred to as the gross or full goodwill method. It determines the goodwill that relates to the whole of the subsidiary, ie goodwill that is both attributable to the parent’s interest and the non-controlling interest (NCI).
IFRS Determining the amount of goodwill and minority interest: CONSIDER CALCULATING GOODWILL
Borough acquires an 80% interest in the equity shares of High for consideration of $500. The fair value of the net assets of Borough at that date is $400. The fair value of the NCI at that date (ie the fair value of High’s shares not acquired by Borough) is $100.
1. Calculate the goodwill arising on the acquisition of High on a proportionate basis.
2. Calculate the gross goodwill arising on the acquisition of High, ie using the fair value of the NCI.
1. The proportionate goodwill arising is calculated by matching the consideration that the parent has given, with the interest that the parent acquires in the net assets of the subsidiary, to give the goodwill of the subsidiary that is attributable to the parent.
|Parent’s cost of investment at the|
fair value of consideration given
|Less the parent’s share of the fair|
value of the net assets of the
(80% x $400)
|Goodwill attributable to the parent||$180|
2. The gross goodwill arising is calculated by matching the fair value of the whole business with the whole fair value of the net assets of the subsidiary to give the whole goodwill of the subsidiary, attributable to both the parent and to the NCI.
|Parent’s cost of investment at the|
fair value of consideration given
|Fair value of the NCI||$100|
|Less the fair value of the net|
assets of the subsidiary acquired
|(100% x $400)|
Given a gross goodwill of $200 and a goodwill attributable to the parent of $180, the goodwill attributable to the NCI is the difference of $20.
In these examples, goodwill is said to be a premium arising on acquisition. Such goodwill is positive goodwill and accounted for as an intangible asset in the group accounts, and as we shall see be subject to an annual impairment review.
In the event that there is a bargain purchase, ie negative goodwill arises, then this is regarded as a profit and immediately recognised in income.
IFRS Determining the amount of goodwill and minority interest:CONSIDER AN IMPAIRMENT REVIEW
A company has an asset that has a carrying value of $800. The asset has not been revalued. The asset is subject to an impairment review. If the asset was sold then it would sell for $610 and there would be associated selling costs of $10. (The fair value less costs to sell of the asset is therefore $600.) The estimate of the present value of the future cash flows to be generated by the asset if it were kept is $750. (This is the value in use of the asset.)
Determine the outcome of the impairment review.
An asset is impaired when its carrying value exceeds the recoverable amount, where the recoverable amount is the higher of the fair value less costs to sell and the value in use. In this case, with a fair value less cost to sell of only $600 and a value in use of $750 it both follows the rules, and makes common sense to minimise losses, that the recoverable amount will be the higher of the two, ie $750.
|Carrying value of the asset||$800|
As the asset has never been revalued, the loss has to be charged to income. Impairment losses are non-cash expenses, like depreciation, so in the cash flow statement they will be added back when reconciling operating profit to cash generated from operating activities, just like depreciation again.
Assets are generally subject to an impairment review only if there are indicators of impairment. IAS 36, Impairment of Assets lists examples of circumstances that would trigger an impairment review.
- market value declines
- negative changes in technology, markets, economy, or laws
- increases in market interest rates
- company share price is below book value
- obsolescence or physical damage
- asset is part of a restructuring or held for disposal
- worse economic performance than expected
IFRS Determining the amount of goodwill and minority interest: GOODWILL AND IMPAIRMENT
The asset of goodwill does not exist in a vacuum; rather, it arises in the group accounts because it is not separable from the net assets of the subsidiary that have just been acquired.
The impairment review of goodwill therefore takes place at the level of a cash-generating unit, that is to say a collection of assets that together create an independent stream of cash. The cash-generating unit will normally be assumed to be the subsidiary. In this way, when conducting the impairment review, the carrying value will be that of the net assets and the goodwill of the subsidiary compared with the recoverable amount of the subsidiary.
When looking to assign the impairment loss to particular assets within the cash generating unit, unless there is an asset that is specifically impaired, it is goodwill that is written off first, with any further balance being assigned on a pro rata basis.
The goodwill arising on the acquisition of a subsidiary is subject to an annual impairment review. This requirement ensures that the asset of goodwill is not being overstated in the group accounts. Goodwill is a peculiar asset in that it cannot be revalued so any impairment loss will automatically be charged against income. Goodwill is not deemed to be systematically consumed or worn out thus there is no requirement for a systematic amortisation.
IFRS Determining the amount of goodwill and minority interest: PROPORTIONATE GOODWILL AND THE IMPAIRMENT REVIEW
When goodwill has been calculated on a proportionate basis then for the purposes of conducting the impairment review it is necessary to gross up goodwill so that in the impairment review goodwill will include an unrecognised notional goodwill attributable to the NCI.
Any impairment loss that arises is first allocated against the total of recognised and unrecognised goodwill in the normal proportions that the parent and NCI share profits and losses.
Any amounts written off against the notional goodwill will not affect the consolidated financial statements and NCI. Any amounts written off against the recognised goodwill will be attributable to the parent only, without affecting the NCI.
If the total amount of impairment loss exceeds the amount allocated against recognised and notional goodwill, the excess will be allocated against the other assets on a pro rata basis. This further loss will be shared between the parent and the NCI in the normal proportion that they share profits and losses.