Accounting Alert

This Accounting Alert is issued to provide an overview of Philippine Financial Reporting Standards (PFRS) 3, Business Combinations, to assist preparers of financial statements and those charged with the governance of reporting entities understand the requirements set out in PFRS 3 and revisit some areas where confusion has been seen in practice.

Overview

Mergers and acquisitions (business combinations) can have a fundamental impact on the acquirer’s operations, resources and strategies. For most entities, such transactions are infrequent, and each is unique. PFRS 3 contains the requirements for these transactions, which can be challenging in practice. This article explains the recognition principles set out in PFRS 3.

Overview of PFRS 3’s recognition and measurement principles

The acquisition method requires the acquirer to recognize and measure the acquiree’s identifiable assets acquired and liabilities assumed at their acquisition-date fair values, subject to some exceptions. PFRS 3’s recognition and measurement principles should be applied to determine which assets and liabilities to recognize and how they should be measured. The identifiable assets acquired, and liabilities assumed should consist of those that:

• belong to the acquiree at the date of acquisition; and,

• form part of what has been acquired by the acquirer.

Most, but not quite all, of these assets and liabilities are measured at fair value at the acquisition date – the so called  ‘fair value exercise’.

Applying PFRS 3’s recognition principle

PFRS 3’s recognition conditions:

PFRS 3 states that from 1 January 2022 at the latest, identifiable assets acquired and liabilities assumed are recognized at the acquisition date if they meet the following definitions of an asset or a liability included in the Conceptual Framework for Financial Reporting issued in 2018:

Asset - Present economic resource controlled by the entity as a result of past events

Liability - Present obligation of the entity to transfer an economic resource as a result of past events

PFRS 3’s identifable assets and liabilities requiring specific attention

The identifiable assets and liabilities to be recognized are unique to each business combination and may differ extensively depending on the industry. However, specific considerations apply to some types of assets and liabilities because of one or more of the following factors:

• PFRS 3 includes specific guidance that is, in some cases, an exception to the general recognition principle as discussed above, and,

• these items were not recognized in the acquiree’s own financial statements.

Examples of items requiring specific attention and for which specific guidance exists in PFRS 3 are listed in the accounting alert attached to this email.

Recognising identifiable intangible assets: what PFRS 3 permits

Specific recognition requirements

Intangible assets acquired in a business combination are recognized separately from goodwill if they:

• meet PFRS 3’s general recognition principle (see above); and,

• are identifiable.

Identifiable has a specific meaning in this context and is based on guidance set out in PAS 38, Intangible Assets.

PFRS 3’s requirement to classify or designate identifiable assets acquired and liabilities assumed

The accounting for identifiable assets and liabilities depends on how they are classified and designated. The acquisition method requires the acquirer to classify and designate acquired assets and liabilities based on contractual terms and economic conditions at the acquisition date. This also takes into account:

• the acquirer’s operating or accounting policies;

• the intentions of the business going forward; and,

• other pertinent conditions.

Therefore, the acquirer’s classifications and designations may differ from those of the acquiree before the combination. PFRS 3 provides a non-exhaustive list of examples of the classification or designation of acquired assets and liabilities.

See attached Accounting Alert for further details and illustrative examples.