Module 2: Business Combination (Part 2)
Learning Objectives:
1. Students will be able to account for business combinations (a) accomplished through share-for-share exchanges, (b) achieved
in stages, and (c) achieved without transfer of consideration.
2. Students will be able to explain the measurement period.
3. Students will be able to distinguish what is a part of a business combination and which part of a “separate transaction.”
4. Students will be able to account for settlement of pre-existing relationship between an acquirer and an acquiree.
5. Students will be able to account for reverse acquisitions.
Share-for-share exchanges
A business combination may be accomplished through exchange of equity interests between the acquirer and the acquiree. The general
principle is that the consideration transferred (in this case, the shares issued by the acquirer) is measured at fair value.
However, there may be cases where the fair value of the acquiree’s equity interests may be more reliably measurable than the acquirer’s. In
such cases, the acquirer computes for the goodwill using the fair value of the acquiree’s equity interests instead of its own.
Illustration 1:
Tanjiro Co. and Nezuko Company combined their businesses through exchange of equity instruments, which resulted to Tanjiro obtaining
100% interest in Nezuko. Both the entities are publicly listed. At the acquisition date, Tanjiro’s share quoted at P100 per share. Tanjiro
recognized goodwill of P300,000 on the business combination. Additional information follows:
Tanjiro (before acquisition) Combined entity
Share capital 600,000 700,000
Share premium 300,000 1,200,000
Totals 900,000 1,900,000
Required: Compute for the following:
1. Number of shares issued by Tanjiro
2. Par value per share of the shares issued
3. Acquisition-date fair value of the net identifiable assets of Nezuko
Illustration 2:
Tanjiro Co. issued shares in exchange for 100% interest in Nezuko Company. Relevant information follows:
Tanjiro (carrying amounts) Nezuko (fair values) Combined entity
Identifiable assets 2,400,000 1,600,000 4,000,000
Goodwill - - ?
Total assets 2,400,000 1,600,000 ?
Liabilities 700,000 900,000 1,600,000
Share capital 600,000 300,000 700,000
Share premium 300,000 250,000 1,200,000
Retained earnings 800,000 150,000 ?
Total liabilities and equity 2,400,000 1,600,000 ?
Additional information:
• Tanjiro’s share capital consists of 60,000 ordinary shares with par value of P10 per share.
• Nezuko’s share capital consists of 3,000 ordinary shares with par value of P100 per share.
Required: Compute for the following:
1. Number of shares issued by Tanjiro
2. Fair value per share of the shares issued
3. Goodwill recognized on acquisition date
4. Retained earnings of the combined entity immediately after the business combination
Business combination achieved in stages
A business combination achieved in stages happens when the acquirer obtains control of an acquire in more than one transaction. It is also
called as “step acquisition.”
In accounting for a business combination achieved in stages, the acquirer:
a. Remeasures the previously held equity interest in the acquiree at acquisition-date fair value; and
b. Recognizes the gain or loss on the remeasurement in:
i. Profit or loss – if the previously held equity interest was classified as FVPL, Investment in Associate, or Investment in
Joint Venture; or
ii. Other comprehensive income – if the previously held equity interest was classified as FVOCI.
Illustration 3:
On January 1, 2026, Tanjiro Co. acquire 15% ownership interest in Nezuko Company for P100,000. Tanjiro classified the investment as held
for trading securities. On January 1, 2029, Tanjiro acquired additional 60% ownership interest in Nezuko for P800,000. Relevant information
follows:
• The previously held 15% interest has a carrying amount of P170,000 on December 31, 2028 and fair value of P180,000, on January
1, 2029.
• Nezuko’s net identifiable assets have a fair value of P1,000,000.
• Tanjiro elected to measure the NCI at proportionate share.
Required: Compute for the goodwill
Business combination without transfer of consideration
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The acquisition method also applies to business combination in which the acquirer obtains control without transferring any consideration.
Examples of circumstances where the acquirer obtains control without transferring consideration:
a. The acquiree repurchases a sufficient number of its own shares from other investors so that the acquirer will be able to obtain
control.
b. Minority veto rights that previously kept the acquirer from controlling the acquiree have lapsed.
c. The acquirer and acquiree agree to combine their businesses by contract alone. The acquirer neither transfers consideration nor
holds equity interests in the acquiree.
In a business combination achieved without transfer of consideration, the acquisition-date fair value of the acquirer’s interest in the acquiree
is substituted for the consideration transferred in computing for goodwill.
In a business combination achieved by contract alone, the interest held by parties other than the acquirer are attributed to NCI, even if the
result is that NCI represents 100% interest in the acquiree.
Illustration 4:
Tanjiro Co. owns 36,000 out of the 90,000 outstanding shares of Nezuko Company. Tanjiro accounts for the investment under the equity
method. Nezuko subsequently reacquires 30,000 shares from other investors. Information on the acquisition date is as follows:
a. The previously held interest has a fair value of P180,000.
b. Nezuko’s net identifiable assets have a fair value of P1,000,000.
Required: Compute for the goodwill
Illustration 5:
Tanjiro Co and Nezuko Company enter into a contract whereby Tanjiro obtains control of Nezuko. No consideration is transferred between
the parties. The fair value of Nezuko’s net identifiable assets at acquisition date is P1,000,000. Tanjiro chose to measure NCI at proportionate
share.
Required: Compute for the goodwill
Measurement period
If the initial accounting for a business combination is incomplete by the end of the reporting period, the acquirer can use provisional amounts
to measure any of the following:
a. Consideration transferred
b. Noncontrolling interest in the acquiree
c. Previously held equity interest in the acquiree
d. Identifiable assets acquired and liabilities assumed
Within 12 months from the acquisition date, the acquirer retrospectively adjusts the provisional amounts for any new information obtained.
Any adjustment to a provisional amount is recognized as an adjustment to goodwill or gain on bargain purchase.
Adjustments beyond 12 months are accounted for under PAS 8 Accounting Policies, Changes in Accounting Estimates and Errors.
Illustration 6:
On October 1, 2025, Tanjiro Co. acquired all the identifiable assets and assumed all the liabilities of Nezuko Company for P1,000,000. On
this date, Nezuko’s assets and liabilities have fair values of P1,600,000 and P900,000, respectively.
Case #1: The assets acquired include a building which was assigned a provisional amount of P700,000 because the appraisal is not yet
complete by the time Tanjiro authorized for issue its December 31, 2025 financial statements. The building was tentatively assigned a 10-
year useful life and was depreciated for three months in 2025 using the straight-line method. On July 1, 2026, Tanjiro received the valuation
report for the building. The building’s fair value on October 1, 2025 is P500,000 and its remaining useful life from that date is 5 years.
Required:
1. Measurement period
2. How should Tanjiro account for the new information obtained on July 1, 2026?
3. Adjusted goodwill
4. What are the adjusting entries?
Case #2: On July 1, 2026, Tanjiro obtained new information that Nezuko has an unrecorded patent which was not known on October 1, 2025.
The patent has a fair value of P100,000 and remaining useful life of 4 years as of October 1, 2025.
Required: Compute for the adjustment goodwill and provide the adjusting entries
Case #3: On November 1, 2026, Tanjiro’s auditors discovered that a patent with fair value of P100,000 was erroneously omitted from the
valuation listing on October 1, 2025. The patent has a fair value of P100,000 and remaining useful life of 4 years as of October 1, 2025.
Required: How should Tanjiro account for the new information obtained on November 1, 2026?
Illustration 7:
On October 1, 2025, Tanjiro Co., an unlisted entity, issued 10,000, P5 par value, shares in exchange for all the identifiable assets and liabilities
of Nezuko Company.
During acquisition date, the following information exists:
• The shares issued were assigned a provisional amount of P100 per share.
• The fair values of some of the assets acquired are not readily determinable. Accordingly, a provisional amount of P700,000 was
assigned to Nezuko’s net identifiable assets.
After acquisition date, the following information exists:
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• On April 1, 2026, new information was obtained indicating that, on October 1, 2025: (a) fair value of the shares issued was P110
per share; and (b) fair value of Nezuko’s net identifiable assets was P900,000.
• On July 1, 2026, two competitors of Tanjiro have also merged. This led Tanjiro to believe that the merger with Nezuko is not as
profitable as expected. Tanjiro estimates that the valuations of the consideration transferred and Nezuko’s net identifiable assets
should have been P900,000 and P400,000, respectively.
Required: Compute for the adjusted goodwill
Determining what is part of the business combination transaction
In applying the acquisition method, the acquirer identifies and excludes amounts that are not part of the consideration transferred on the
business combination and accounts for them using other relevant PFRSs.
The acquirer considers the following when determining whether a transaction is part of a business combination or a separate transaction:
a. For the benefit of the acquirer – excluded from the consideration transferred.
b. Initiated by the acquirer = benefit of the acquirer – excluded from the consideration transferred.
c. Transaction between the acquirer and acquiree during the negotiations of a business combination is more likely to be part of the
business combination.
Exceptions:
1. Settlement of pre-existing relationship between the acquirer and acquiree;
2. Remuneration to employees or former owners of the acquiree for future services; and
3. Reimbursement to the acquiree or its former owners for paying the acquirer’s acquisition-related costs.
Illustration 8:
Tanjiro Co. acquired all the assets and liabilities of Nezuko company for P1,000,000. Nezuko’s assets and liabilities have fair values of
P1,600,000 and P900,000, respectively.
Additional information:
• Nezuko incurred P10,000 legal fees in processing the regulatory requirements for the combination. Tanjiro agreed to reimburse the
said amount.
• Nezuko will terminate its activities after the business combination. Tanjiro agreed to reimburse Nezuko’s estimated liquidation
costs of P200,000.
• Tanjiro will retain Nezuko’s former key employees. Tanjiro agreed to pay the key employees P100,000 as signing bonuses.
• Tanjiro agreed to pay an additional P50,000 directly to Mr. Zenitsu, the previous major shareholder of Nezuko, to persuade him in
selling his shareholdings to Tanjiro.
• Ms. Kanao, a former shareholder of Nezuko, will acquire title to inventories with fair value of P90,000 that were included in the
asset valuation.
Required: Compute for the goodwill
Reacquired rights
A right that an acquirer has previously granted to be the acquiree that is reacquired as a result of a business combination is recognized as an
intangible asset separate from goodwill.
Examples of reacquired rights:
a. Right to use the acquirer’s intangible asset, such as trade name under a franchise agreement.
b. Right to use the acquirer’s technology under a technology licensing agreement.
Settlement of pre-existing relationship
Prior to business combination, the acquirer and the acquiree may have pre-existing relationship. Such relationship may be:
a. Contractual – such as vendor and customer. A pre-existing relationship may be a contract that the acquirer recognizes as a
reacquired right.
b. Non-contractual – such as plaintiff and defendant on a pending lawsuit.
If the pre-existing relationship is settled due to the business combination, the acquirer recognizes a settlement gain or loss measured as
follows:
a. At the lower of (i) and (ii) below, if the pre-existing relationship is contractual.
i. The amount by which the contract is favorable or unfavorable, from the acquirer’s perspective, when compared with
market terms.
ii. Any settlement amount stated in the contract that is available to the counterparty to which the contract is unfavorable. If
this is less than the amount in (i), the difference is included as part of the business combination.
b. At fair value, if the pre-existing relationship is non-contractual.
The settlement gain or loss is adjusted for the derecognition of any related asset or liability that the acquirer has previously recognized.
Illustration 9:
On January 1, 2026, Tanjiro acquired all the assets and liabilities of Nezuko for P1,000,000. Nezuko’s assets and liabilities have fair values
of P1,600,000 and P900,000, respectively.
Additional information:
• Prior to the business combination, Tanjiro granted Nezuko the right to use Tanjiro’s patented technology over a 5-year period in
exchange for P100,000 cash (payable at grant date) and royalty fees based on Nezuko’s sales over the 5-year period.
• Tanjiro recognized the P100,000 license fee as deferred liability (unearned income) and amortized it over 5 years. The carrying
amount of the deferred liability on January 1, 2026 is P60,000.
• On the other hand, Nezuko recognized the license fee as prepayment (prepaid asset) and amortized it based on the number of
products sold. The carrying amount of the prepayment on January 1, 2026 is P50,000.
• On acquisition date, the fair value of the license agreement is P120,000. This consists of the following components:
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o P40,000 “at-market” (based on market participants’ estimates); and
o P80,000 “off-market” (the excess of P120,000 fair value derived from cash flow estimates over P40,000 “at market”
value).
• the off-market component is favorable to Nezuko and unfavorable t oTanjiro, as royalty rates have increased considerably in
comparable markets since the initiation of the contract. The contract does not have cancellation clause or any minimum royalty
payment requirements.
Required: Compute for the goodwill
Illustration 10:
On January 1, 2026, Tanjiro acquired all the assets and liabilities of Nezuko for P1,000,000. Nezuko’s assets and liabilities have fair values
of P1,600,000 and P900,000, respectively.
Additional information:
• Tanjiro and Nezuko have a pre-existing supply contract under which Tanjiro could purchase raw materials from Nezuko at
discounted rates. The contract has remaining term of three years, which Tanjiro can terminate by paying P100,000 penalty.
• The supply contract has a fair value of P160,000, of which P70,000 is “at-market.” The “off-market” component is unfavorable to
Tanjiro because it exceeds the price of current market transactions for similar items.
• No assets or liabilities related to the contract were recognized in either of Tanjiro’s or Nezuko’s books as at the acquisition date.
Required: Compute for the goodwill
Illustration 11:
On January 1, 2026, Tanjiro acquired all the assets and liabilities of Nezuko for P1,000,000. Nezuko’s assets and liabilities have fair values
of P1,600,000 and P900,000, respectively.
Tanjiro is the defendant on a pending patent infringement suit filed by Nezuko. Tanjiro recognized a provision of P130,000 on the lawsuit.
After business combination, the disputed patent will be transferred to Tanjiro. The fair value of settling the pending lawsuit is P100,000.
Required: Compute for the goodwill
Subsequent measurement and accounting
Subsequent to acquisition date, the acquirer accounts for assets acquired, liabilities assumed and equity instruments issued in a business
combination in accordance with other PFRSs applicable for those items. However, the following are subsequently accounted for under PFRS
3:
a. Reacquired rights
b. Indemnification of assets
c. Contingent liabilities recognized as of acquisition date
d. Contingent consideration
A. Reacquired rights
This right is recognized as an intangible asset, amortized over the remaining term of the related contract.
B. Indemnification of assets
This is measured on the same basis as the indemnified item, subject to assessments of collectability for indemnification assets not
measured at fair value.
C. Contingent liabilities
This is recognized in a business combination measured at the higher of:
1. The amount that would be recognized by applying PAS 37; and
2. The amount initially recognized less, if appropriate, cumulative amount of income recognized in accordance with PFRS 15.
D. Contingent consideration
This is an additional consideration for a business combination that the acquirer agrees to provide to the acquiree upon the happening of
a contingency.
Initial recognition and measurement
A contingent consideration is measured at acquisition-date fair value and included in the consideration transferred. The obligation to pay the
contingent consideration is classified either as liability or equity. A right to recover a previously transferred consideration if specified
conditions are met is classified as an asset.
Subsequent measurement
A change in the fair value of a contingent consideration resulting from additional information obtained during the measurement period is
accounted for as a retrospective adjustment to provisional amount. However, changes resulting from meeting and earnings target, reaching a
specified share price or reaching a milestone on a research and development project are not measurement period adjustments.
Changes in fair value that are not measurement period adjustments are accounted for depending on the classification of the contingent
consideration:
a. A contingent consideration classified as equity is not remeasured and its subsequent settlement is accounted for within equity.
b. A contingent consideration classified as an asset or liability is measured at fair value at each reporting date. Changes in fair value
are recognized in profit or loss.
Illustration 12:
On January 1, 2026, Tanjiro issued 10,000 shares with par value of P10 per share and fair value of P100 per share in exchange for all the
assets and liabilities of Nezuko. Nezuko’s assets and liabilities have fair values of P1,600,000 and P900,000, respectively.
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In addition, Tanjiro agrees to issue additional 1,000 shares to the former owners of Nezuko if the market price of Tanjiro’s shares increases
to P120 per share by December 31, 2026. The fair value of the contingent consideration as of January 1, 2026 is P90,000, based on
consideration of the vesting conditions.
Required: Compute for the goodwill
Additional information:
Case 1: The market price of Taniro’s shares on December 31, 2026 is P120. The contingent consideration is settled on January 15, 2027.
Provide the journal entries.
Case 2: The market price of Tanjiro’s shares on December 31, 2026 is P90. Provide the journal entries.
Illustration 13:
On January 1, 2026, Tanjiro issued 10,000 shares with par value of P10 per share and fair value of P100 per share in exchange for all the
assets and liabilities of Nezuko. Nezuko’s assets and liabilities have fair values of P1,600,000 and P900,000, respectively.
Tanjiro agrees to pay additional cash equal to 10% of the 2026 year-end profit that exceeds P400,000. Nezuko historically has reported profits
of P300,000 to P400,000 each year. The fair value of the contingent consideration as of January 1, 2026 is P10,000, based on assessments of
the expected level of profits for the year, as well as, forecasts, plans and industry trends.
Required: Compute for the goodwill
Additional information:
Case 1: The profit for the year is P550,000. The contingent consideration is settled on January 2, 2027. Provide the journal entries.
Case 2: The profit for the year is P300,000. Provide the journal entries.
Reverse acquisitions
In a business combination accomplished through exchange of equity interests, the acquirer is usually the entity that issues its equity interests.
In a reverse acquisition, the entity that issues securities (the legal acquirer) is identified as the acquiree for accounting purposes, while the
entity whose equity interests are acquired (the legal acquiree) is the acquirer for accounting purposes.
Measuring the consideration transferred
In substance, the accounting acquirer issues no consideration to the acquiree. Instead, the accounting acquiree issues equity interests to the
owners of the accounting acquirer for them to obtain control over the accounting acquiree.
As such, the acquisition-date fair value of the consideration transferred by the accounting acquirer is measured as an amount based on the
number of equity interests the legal subsidiary would have had to issue to give the owners of the legal parent the same percentage of equity
interest in the combined entity that results from the reverse acquisition.
Illustration 14:
Tanjiro, a publicly listed entity, and Nezuko, an unlisted company, exchange equity interests.
• Tanjiro issues 5 shares in exchange for all the outstanding shares of Nezuko.
• Tanjiro’s shares are quoted at P40 per share, while XYZ’s shares have fair value of P200 per share.
• The statements of financial position immediately before the combination are shown below:
Tanjiro Nezuko
Identifiable assets P1,600,000 P2,400,000
TOTAL ASSETS P1,600,000 P2,400,000
Liabilities P1,300,000 P700,000
Share capital:
10,000 ordinary shares, P10 par 100,000
8,000 ordinary shares, P100 par 800,000
Retained earnings 200,000 900,000
TOTAL LIABILITIES & EQUITY P1,600,000 P2,400,000
• The assets and liabilities approximate their fair values.
Required:
1. Identify the accounting acquirer
2. Compute for the goodwill
References
Millan, Z. V. (2022). Accounting for Business Combinations. Bandolin Enterprise.
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