Amalgamation is a process in which the companies liquidate to create a new company, which takes over the business of liquidating companies. Accounting Standard 14 issued by the Institute of Chartered Accountants of India deals with the accounting for amalgamation.
EXAMPLE: If A Ltd. And B Ltd. Are taken over by a newly formed company C Ltd, it is a case of Amalgamation. It states:
- That two or more companies go into liquidation
- That a newly formed company takes over the business of the existing companies.
TYPES OF AMALGAMATION
Accounting Standard 14 divides the amalgamation into two categories:
AMALGAMATION IN NATURE OF MERGER
In this type of amalgamation, not only is the pooling of assets and liabilities is done but also of the shareholder’s interests and the businesses of these companies. In other words, all assets and liabilities of the transferor company become that of the transferee company. In this case, the business of the transferor company is intended to be carried on after the amalgamation. There are no adjustments intended to be made to the book values.
As per AS-14, amalgamation in the nature of merger is an amalgamation which satisfies all the following conditions:
Transfer of All Assets and Liabilities: All the assets and liabilities of the transferor company become of the transferee company after amalgamation.
At least 90% of the holders remain the same: Shareholders holding not less than 90% of the face value of equity shares of the transferor company becomes equity shareholders for the transferee company after amalgamation.
Discharge of Purchase Consideration in shares only: The consideration for the amalgamation receivable by those equity shareholders of the transferor company who agree to become equity shareholders of the transferee company is discharged by the transferee company wholly by the issue of equity shares in the transferee company, except that cash may be paid in respect of any fractional shares.
Same business to be continued: The business of the transferor company is intended to be carried on, after the amalgamation, by the transferee company.
No adjustments in the book value of assets and liabilities: No adjustment is to be made in the book values of the assets and liabilities of the transferor company when they are incorporated in the financial statements of the transferee company. Only uniformity of accounting policies are to be assured.
AMALGAMATION IN NATURE OF PURCHASE
Through this method, one company is acquired by another, and thereby the shareholder’s of the company which is acquired normally do not continue to have proportionate share in the equity of the combined company or the business of the company which is acquired is generally not intended to be continued. If the purchase consideration exceeds the net assets value then the excess amount is recorded as the goodwill, while if it is less than the net assets value it is recorded as the capital reserves.
EXAMPLE: Suppose A Ltd. acquires the business of B Ltd. with no intention to continue such business, it is purchase and not merger. Similarly, shareholders of B Ltd. holding 90% of the share capital do not become shareholders of A Ltd. The amalgamation is only in the nature of purchase.
METHODS OF ACCOUNTING
There are two main methods for accounting of amalgamation:
POOLING OF INTERESTS METHOD
The pooling of interests method is followed in the case of amalgamation in case of merger. In this method the assets, liabilities and reserves are taken over by the transferee company of the transferor company at the existing values. In case there is any change in the accounting policies followed the adjustments of the amounts should be made in the book values. The difference between the share capital issued and amount of share capital of Transferor Company should be adjusted in reserves.
The pooling of interest method is based on the assumption that the deal is nothing but an exchange of equity securities. Hence the capital account of the firm acquired is removed and replaced with the new stock by the acquiring company. The balance sheet of the two firms is united, in which the assets and liabilities are shown at their book values, as on the date of acquisition.
In the end, the aggregate assets of the united firm are equal to the aggregate of the assets of the individual firm. Neither goodwill is general, nor there is a charge against the incomes.
The transferor company’s assets, liabilities, and reserves are entered in the books of accounts of the transferee company, at their existing carrying amounts, after giving effect to relevant adjustments. Further, the reserves shown on the balance sheet of the transferor company is taken to the transferee company’s balance sheet. The dissimilarity in the capital, as a result of exchange ratio, is adjusted in the reserves
This method is followed in case of Amalgamation in nature of purchase. The features of this method are as follows:
Recording of Assets and Liabilities: The assets and liabilities of the transferor company are recorded at their books values in the books of Transferee Company.
Allocation of Purchase Consideration: The purchase consideration is allocated to the individuals identifiable assets and liabilities on the basis of the fair values at the time of amalgamation.
Taking over of reserves: Only statutory reserves of the transferor company are shown in the books of the transferee company. This is done by passing the following journal entry:
Amalgamation Adjustment Account A/c Dr.
To Statutory Reserves A/c
Disclosure of amalgamation adjustment account: The amalgamation adjustment account is disclosed as a part of the Miscellaneous Expenditure in the balance sheet.
Difference between purchase consideration and net assets: In purchase method, any excess of the amount of the purchase consideration over the net assets of the transferor company acquired by the transferee company is recorded as goodwill.
If the amount of purchase consideration is less than the net assets, the difference is capital reserve.
Amortisation of goodwill: The goodwill so created is amortised over its useful life. This will be normally written off over a period of 5 years unless a longer period is justified.
In purchase method, the assets are depicted in the books of the merged firm, at their fair market value and liabilities at agreed values, as on the date of acquisition. It is based on the premise that the final values should represent, the market values decided during the negotiation. The aggregate liabilities of the united firm is equal to the sum of the liabilities of the individual firms. The equity capital of the transferee company is increased by the amount of the purchase consideration.
It is the method of accounting in which the transferee company records amalgamation, either by keeping track of assets and liabilities at their existing carrying amount or by assigning the purchase consideration, to individual assets and liabilities of the transferor company, that are recognizable, at their fair market value, on the date amalgamation becomes effective.
The reserves of the transferor company, excluding statutory reserves, should not become part of the financial statement of the transferee company. Statutory reserves imply the reserves that are created for fulfilling the legal requirement.
The discrepancy between the purchase consideration and the net worth is termed as goodwill, which requires amortization, within five years. Further, if the consideration is lower than the net book value of assets over liabilities, the difference is indicated as capital reserve.
DIFFERENCE BETWEEN POOLING OF INTERESTS METHOD AND PURCHASE METHOD
|BASIS FOR COMPARISON||POOLING OF INTEREST METHOD||PURCHASE METHOD|
|Meaning||Pooling of Interest Method of accounting is one in which the assets, liabilities and reserves are combined and shown at their historical values, as of the date of amalgamation.||Purchase Method, is an accounting method, wherein the assets and liabilities of the transferor company are shown at their market value in the books of the transferee company, as of the date of amalgamation.|
|Applicability||It is applicable in case of amalgamation in nature of Merger.||It is applicable in case of amalgamation in nature of Acquisition or Purchase.|
|Assets and liabilities||The assets and liabilities appear at book values.||The assets and liabilities appear at fair market values.|
|Recording||All the assets and liabilities of the companies undergoing merger are aggregated.||Only those assets and liabilities are recorded in the books of transferee company, which are taken over by it.|
|Reserves||The identity of transferor company’s reserves is kept intact.||The identity of the transferor company’s reserves except statutory reserves is not kept intact.|
|Purchase Consideration||Difference in the amount of puchase consideration and share capital is adjusted with reserves.||Surplus of deficit of purchase consideration over the net asset acquired, should be credited or debited, as capital reserves or goodwill.|
So, pooling of interest and purchase method are the two important accounting techniques used in the mergers and acquisitions of the companies. They mainly differ, in terms of the value that the combined balance sheet of the company places on the assets of the transferor company.
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