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Business Combinations
and Consolidated
Financial Statements
How the changes will impact your business
Contents
Executive Summary...........................................................................1
1. Introduction ...................................................................................2
2. Changes in application of the acquisition
method of accounting.......................................................................3
3. Consolidated Financial Statements...........................................9
4. Effective Date and Transition....................................................11
5. Differences between IFRS and US GAAP................................12

Executive Summary
In January 2008, the International Accounting Standards Board
(IASB or Board) issued revised standards, IFRS 3 Business
Combinations (IFRS 3R) and IAS 27 Consolidated and Separate
Financial Statements (IAS 27R), that significantly change the
accounting for business combinations and transactions with
non-controlling interests (minority interests).
In this publication, we discuss the key changes introduced by
IFRS 3R and IAS 27R and what these will mean for your
business — in particular, how they may change the way
acquisitions are structured and negotiated. The most significant
changes introduced and their potential impact can be seen in
Table 1 below. Sections 2 and 3 discuss IFRS 3R and IAS 27R
in more detail. Applying the new requirements will mean, in
many cases, that either goodwill will be lower or that the
reported results of the group will decrease or become more
volatile — both in the year of acquisition and subsequently.
And all of this could have an impact on debt covenants which
management remuneration structures tied to the performance
of the group and will require management to re-examine these.
Every acquisition will be affected by the requirement to
expense transaction costs.
The changes will also require more extensive disclosures, partic-
ularly of the determination of fair value for contingent liabilities
acquired. Going forward, management will need to ensure that
disclosures meet the requirement of the standard, without being
detrimental to future negotiations or its competitive position.
IFRS 3R and IAS 27R are not applicable until annual periods
beginning on or after 1 July 2009, although early application is
permitted for annual periods beginning on or after 30 June 2007.
1 July 2009 may seem a long way off, but management should
consider the effect of changes when planning or negotiating
future transactions, particularly where a less than 100% interest
is being acquired. Generally, there is no need to restate acquisitions
that take place prior to the effective date. The exception to this
and the specific requirements for transitioning to the new
standard are discussed further in Section 4.
While the project was conducted jointly with the US Financial
Accounting Standards Board (FASB) as part of the convergence
programme with the IASB, and is based on the same underlying
principles, a number of differences between the IASB and FASB
standards exist due to different ‘exemptions’ within the revised
standards, and the interaction of the business combinations
standards with other IASB and FASB standards that differ from
each other. A summary of the key differences is contained in
Section 5.

Table 1: Summary of key changes in accounting and their impact on goodwill and reported results

Impact on
Time/cost Reported results
Summary of change Goodwill
to implement Volatility Earnings
Option to measure non-controlling interest at its fair value (a)  — —
Accounting for changes in ownership interests of a subsidiary (that do not result in loss
(a) — — (a)
of control) as an equity transaction
Contingent consideration recognised at fair value at the date of acquisition, with
subsequent changes generally reflected in profit or loss
   Future 

Expensing acquisition costs as incurred  — — Current 

Reassess the classification of all assets and liabilities of the acquiree    —
Separately account for re-acquired rights of the acquirer and pre-existing relationships
between the acquirer and acquiree
 or    —

Contingent liabilities only reflect those that are present obligations arising from past events   — —
Recognise gains or losses from measuring initial equity holdings in step acquisitions
at fair value
  — Current 

Separately account for indemnities related to liabilities of the acquiree  —  —

Note (a): The impact on goodwill and reported results is dependent on both the choice of accounting policy applied in the past when acquiring
the non-controlling interest and the option chosen to measure non-controlling interest when applying the revised standard. The different
permutations and the effect on goodwill are discussed further in Section 3.2.

1

1. Introduction
The current practice of accounting for business combinations
is a cost-based approach, whereby the cost of the acquired entity
is allocated to the assets acquired and liabilities (and contingent
liabilities) assumed. In contrast, the revised standards are based
on the principle that, upon obtaining control of another entity,
the underlying exchange transaction should be measured at fair
value, and this should be the basis on which the assets, liabilities
and equity (other than that purchased by the controller) of the
acquired entity are measured. However, a number of exceptions
to this principle have been included in the standard, as explained
in the following sections.
A business combination occurs when an entity ‘obtains control
of one or more businesses’ by acquiring its net assets or its
equity interests. While the focus on ‘obtaining control’ appears
to be narrower than ‘bringing together’ a business, as currently
exists in IFRS 3, we do not believe that in practice this will
give rise to any significant changes. However, IFRS 3R has
redefined a business as:
“… an integrated set of activities and assets that is capable
of being conducted and managed for the purpose of
providing a return in the form of dividends, lower costs,
or other economic benefits directly to investors or other
owners, members, or participants.”
While a business consists of inputs, processes applied to those
inputs, and outputs, IFRS 3R states that it is not necessary for
outputs to be present for the acquired set of assets to qualify as
a business. It is only necessary that inputs and processes are,
or will be, used to create outputs. It is not necessary for the
acquired set of assets to include all of the inputs or processes
used by the seller to operate that business. If other market
participants are able to produce outputs from the set of assets,
for example, by integrating them with their own inputs and
processes, then this is ‘capable of’ being conducted in a
manner that constitutes a business according to IFRS 3. It is
not relevant whether the seller had historically operated the
2 B U S I N E S S C O M B I NAT I O N S
transferred set of assets as a business or whether the acquirer
intends to operate the transferred set as a business. The broad
scope of the term ‘capable of’ requires judgment in assessing
whether an acquired set of activities and assets constitutes a
business, to which the acquisition method is to be applied.
As outputs are not required to exist at the acquisition date, some
development-stage enterprises may now qualify as businesses.
In these situations, various factors will need to be assessed to
determine whether the transferred set of assets and activities is
a business, including whether the set has begun its planned
principal activities, has employees and other inputs and processes
that can be applied to those inputs, is pursuing a plan to produce
outputs, and has the ability to obtain access to customers that
will purchase those outputs.
We expect that there will be an increase in the number of
acquisition transactions that will be accounted for as a business
combination under IFRS 3R compared with current practice.
It is likely that difficulties will arise — and careful judgment
will be required, particularly for acquisitions of single-asset
entities, and assets such as non-operating oil fields.
At the time IFRS 3 was issued in 2004, the IASB excluded from
its scope mutual entities (e.g., credit unions and cooperatives)
and combinations between entities brought together by contract
alone, without obtaining an ownership interest. The Boards
concluded that these events are economically similar to
combinations between other entities and, therefore, extended
the scope of IFRS 3R to include such transactions — thereby
requiring the acquisition method to be applied. Due to the way
such transactions are structured, there is additional guidance
to explain how this method is to be applied in such cases. As
the ‘pooling of interests’ method was often applied to such
transactions in the past, considerably more time and effort will
be required by such entities to apply the acquisition method in
the future. Business combinations between entities under
common control and those in which businesses are brought
together to form a joint venture remain outside of the scope
of IFRS 3R.
AND C O N S O L I DAT E D F I NA N C I A L S TAT E M E N T S

2. Changes in the application
of the acquisition method
of accounting
2.1 Recognising and measuring goodwill or a
gain from a bargain purchase
As noted above, the underlying principle in IFRS 3R is for all
components of the business acquired to be recognised at their
fair value. This effectively means that the consideration paid and
the assets and liabilities of the acquiree and equity attributable
to non-controlling interests are measured at fair value. In
acknowledging the strong disagreement of many of its
constituents with recognising non-controlling interests at
fair value, the IASB introduced an option as to how non-
controlling interest (formerly minority interest) is measured.
As a result, the way in which goodwill or a gain on a bargain
purchase is calculated has changed, being the difference between:
1. The acquisition-date fair value of the consideration
transferred plus the amount of any non-controlling
interest in the acquiree plus the acquisition-date fair value
of the acquirer’s previously held equity interest in the
acquiree; and
2. The acquisition-date fair values (or other amounts recognised
in accordance with the requirements of IFRS 3R, as
discussed below) of the identifiable assets acquired and
liabilities assumed.
Goodwill arises when 1 exceeds 2. A bargain purchase arises
when 2 exceeds 1.
2.1.1 Recognising and measuring non-controlling interests
IFRS 3R provides a choice of two methods for management
to measure non-controlling interests arising in a business
combination: Option 1 – to measure the non-controlling interest
at fair value (effectively recognising the acquired business at
fair value); Option 2 – to measure the non-controlling interest
at the share of the value of net assets acquired, as calculated
in accordance with IFRS 3R. The choice is made for each
business combination (rather than being an accounting policy
choice), and will require management to carefully consider their
future intentions regarding the acquisition of the non-controlling
interest, as the two methods, combined with the revisions to
accounting for changes in ownership interest of a subsidiary
(see 3.2 below) will potentially result in significantly different
amounts of goodwill.
Option 1 – Measuring non-controlling interest at fair value
Non-controlling interest is measured at its fair value, determined
on the basis of market prices for equity shares not held by the
acquirer or, if these are not available, by using a valuation
technique. The result is that recognised goodwill represents all
of the goodwill of the acquired business, not just the acquirer’s
share as currently recognised under IFRS 3.
The amount of consideration transferred by an acquirer is not
usually indicative of the fair value of the non-controlling interest,
because consideration transferred by the acquirer will generally
include a control premium. Therefore, it is often not appropriate
to determine the fair value of the acquired business as a whole
or that of the non-controlling interest by extrapolating the fair
value of the acquirer’s interest. Hence, adopting this option
also means that additional time and expertise may be needed
to determine the fair value of the non-controlling interest (see
the example in box 1).
Option 2 – Measuring non-controlling interest at the value of the
assets and liabilities of the acquiree, calculated in accordance
with IFRS 3R.
Non-controlling interest is measured as the share of the value
of the assets and liabilities of the acquiree, consistent with the
current requirements of IFRS 3 (see the example in box 1).
The result is that recognised goodwill represents only the
acquirer’s share, as it does today. However, contrary to the
practice commonly applied today, the subsequent acquisition
of the outstanding non-controlling interest does not give rise
to additional goodwill being recorded, as the transaction is
regarded as one between shareholders (see 3.2 below).
Which option?
Management must elect, for each acquisition, the option to
measure the non-controlling interest. This will be largely
dependent on the future intentions to acquire non-controlling
interest, due to the potential impact on equity when the out-
standing interest is acquired.
3
2.1.2 Bargain purchases
When a bargain purchase (as defined above) occurs, a gain on
acquisition is recognised in the profit or loss. While this is
consistent with the current requirements of IFRS 3, the amount
recognised may differ, due to the other changes in the standard.
Consistent with the current requirements of IFRS 3, before the
gain can be recognised, the acquirer reassesses the procedures
used to identify and measure acquisition-date fair values of:
1) the identifiable assets acquired and liabilities assumed;
2) the non-controlling interest in the acquiree (if any);
3) for business combinations achieved in stages (as discussed
below), the acquirer’s previously held interest in the acquiree; and
4) the consideration transferred. Any excess that remains is
recognised as a gain, which is attributed only to the acquirer.
Box 1 Example:
Entity B has 40% of its shares publicly traded on an exchange. Entity A
purchases the 60% non-publicly traded shares in one transaction, paying
€630. Based on the trading price of the shares of entity B at the date of
gaining control a value of €400 is assigned to the 40% non-controlling
interest, indicating that entity A has paid a control premium of €30. The
fair value of entity B’s identifiable net assets is €700.
Option 1: Non-controlling interest at fair value
Acquirer accounts for the acquisition as follows:
Fair value of identifiable net assets acquired €700
Goodwill 330
Cash 630
Non-controlling interest 400
The amount of goodwill associated with the controlling interest is €210,
which is equal to the consideration transferred (€630) for the controlling
interest less the controlling interest’s share in the fair value of the identifiable
net assets acquired of €420 (€700 x 60%). The remaining €120 of goodwill
(€330 total less €210 associated with the controlling interest) is associated
with the non-controlling interest.
Option 2: Non-controlling interest at proportion of net assets
Acquirer accounts for the acquisition as follows:
Fair value of identifiable net assets acquired €700
Goodwill 210
Cash 630
Non-controlling interest 280
The goodwill of € 210 represents only that associated with the parent,
being the difference between the consideration transferred (€630) and
the share of the fair value of the identifiable net assets acquired of
€420 (€700 x 60%).
4 B U S I N E S S C O M B I NAT I O N S
2.1.3 Consideration transferred
The consideration transferred is comprised of the acquisition-
date fair values of assets transferred by the acquirer, liabilities
to former owners that are incurred by the acquirer — including
the fair value of contingent consideration — and equity interests
issued by the acquirer.
When the consideration transferred includes assets or liabilities
with carrying amounts that differ from the acquisition-date
fair values, the acquirer should remeasure the transferred
assets or liabilities at their acquisition-date fair values and
recognise the resulting gain or loss in profit or loss. However,
if the transferred assets or liabilities remain in the combined
entity after the acquisition date, the gain or loss is eliminated
in the consolidated financial statements and the respective
transferred assets or liabilities are restored to their historical
carrying amount.
When the combination is by contract alone, there is unlikely
to be any consideration, and IFRS 3R acknowledges this by
indicating that there will be a 100% non-controlling interest
in the net fair value of the acquiree’s assets and liabilities.
Depending on the option chosen to measure non-controlling
interest, this could result in recognising goodwill relating
only to the non-controlling interest or recognising no
goodwill at all.
Contingent consideration
An acquirer may commit to deliver (or receive) cash, additional
equity interests, or other assets to (or from) former owners of an
acquired business after the acquisition date, if certain specified
events occur or conditions are met in the future. Buyers and
sellers commonly use these arrangements when there are
differences in view as to the fair value of the acquired business.
Contingent consideration arrangements are recognised as of the
acquisition date (as part of the consideration transferred in
exchange for the acquired business) at fair value — giving
rise to either an asset or a liability. This approach represents a
significant change from the practice under IFRS 3 of recognising
contingent consideration only when the contingency is probable
and can be reliably measured. The initial measurement of
contingent consideration at the fair value of the obligation is
based on an assessment of the circumstances and expectations
that exist as of the acquisition date. Classification of contingent
consideration obligations as either liabilities or equity is based
on other applicable accounting standards.
AND C O N S O L I DAT E D F I NA N C I A L S TAT E M E N T S
Another significant change from current practice under IFRS 3 is
that subsequent changes in the value of contingent consideration
no longer result in changes to goodwill. Instead, subsequent
changes in value that relate to post-combination events and
changes in circumstances of the combined entity (as opposed to
changes arising from additional information about circumstances
at the acquisition date) are accounted for, as follows:
• Contingent consideration classified as equity is not
remeasured, and settlement is accounted for within equity.
• Contingent consideration that takes the form of financial
instruments within the scope of IAS 39 Financial
Instruments: Recognition and Measurement is measured at
fair value, with changes in value recognised either in profit
or loss or in equity as required by IAS 39.
• Contingent consideration that does not take the form of a
financial instrument within the scope of IAS 39 is accounted
for in accordance with IAS 37 or other applicable standards,
with changes in value recognised in the profit or loss.
In a number of cases, the terms of the arrangement will result
in a derivative being recognised, (as contingent consideration is
no longer scoped out of IAS 39) thereby leading to an increase
in the volatility of reported results. The IASB is currently
discussing proposals to revise the definition of a derivative
as it relates to payments linked to profits, and this may result
in even more contingent consideration arrangements being
classified as derivatives.
As goodwill is no longer adjusted for the actual outcome of
contingencies, it is important to have a reliable estimate of fair
value at the date of acquisition. As re-measurement will affect
subsequent results, the potential impact on debt covenants and
management remuneration structures should also be evaluated
at acquisition date.
Transaction costs
An acquirer often incurs acquisition-related costs such as costs
for the services of lawyers, investment bankers, accountants,
valuation experts, and other third parties. As such costs are not
part of the fair value exchange between the buyer and the
seller for the acquired business, they are accounted for as a
separate transaction in which payments are made in exchange
for services received, and will generally be expensed in the
period in which the services are received. This is a significant
difference from current practice in which such costs are
included in the cost of the combination, and are therefore
included in the calculation of goodwill. Results reported for the
period of any acquisition will now be affected. It must also be
remembered that this must be included as part of operating cost.
Share-based payment awards exchanged for awards held by the
acquiree’s employees
Acquirers often exchange share-based payment awards (i.e.,
replacement awards) for awards held by employees of the
acquired business. These exchanges frequently occur because
the acquirer wants to avoid having non-controlling interests
in the acquiree, and/or to motivate former employees of the
acquiree to contribute to the overall results of the combined,
post-acquisition business. Such exchanges are accounted
for as a modification of a plan in accordance with IFRS 2
Share-based Payments.
If the acquirer is obligated to issue replacement awards in
exchange for acquiree share-based payment awards held by
employees of the acquiree, then all or a portion of the market-
based measure of the acquirer’s replacement awards should be
treated as part of the consideration transferred by the acquirer.
The effect will be to increase goodwill and record a corresponding
amount in equity. The acquirer is considered to have an obligation
if the employees or the acquiree can enforce replacement.
Such an obligation may arise from the terms of the acquisition
agreement, the terms of the acquiree’s award scheme or
legislation. If the acquirer is not obligated to issue replacement
awards but elects to do so, none of the replacement awards
are treated as part of the consideration transferred, therefore
having no impact on goodwill and equity. Rather, the replacement
awards are a post-combination modification, giving rise to
employee compensation expenses.
Therefore, where management is considering replacement of the
acquiree’s share-based payment schemes, careful consideration
should be given at the time of negotiating the arrangement to
ensure management’s intention is correctly reflected.
The portion of the replacement award that is treated as consid-
eration transferred is the amount attributable to past service
that the employee has provided to the acquiree, based on the
market-based measure of the awards issued by the acquiree
(not the market-based measure of the replacement awards
issued by the acquirer). When additional service conditions are
imposed by the acquirer, this affects the total vesting period
and, therefore, the portion of the awards that is considered
pre-combination service.
5
As a result, the portion of replacement award treated as part of
the consideration transferred (i.e., the portion related to past
services) is determined as follows:
Complete vesting period
Market-based measure at
Greater of total vesting
the acquisition date of the x acquired and liabilities assumed
period and original
replaced (i.e., acquiree) award
vesting period
The excess of the market-based measure at the acquisition date
of the replacement (i.e., acquirer) award over the amount
treated as consideration transferred is recognised as compensation
cost over the period from the acquisition date until the end of
the vesting period. Effectively, this means the excess of the
market-based measure of the replacement awards over the
market-based measure of the acquiree award, if any, is recognised
as compensation cost in the acquirer’s post-combination financial
statements. Therefore, management must carefully consider
the terms of replacement awards to avoid surprises.
2.1.4 A business combination achieved in stages
An acquirer may obtain control of an acquiree in stages, by
successive purchases of shares (commonly referred to as a
‘step acquisition’). If the acquirer holds a non-controlling equity
investment in the acquiree immediately before obtaining control,
that investment is remeasured to fair value as at the date of
gaining control, with any gain or loss on remeasurement
recognised in profit or loss.1 A change from holding a non-
controlling equity investment in an entity to obtaining control
of that entity is regarded as a significant change in the nature
of, and economic circumstances surrounding, that investment,
which results in a change in the classification and measurement
of the investment.
This is a significant change from the cost accumulation model
that applies under current IFRS 3, whereby goodwill was
calculated for each separate purchase. Under IFRS 3R, the
previously held balance is remeasured to fair value at the date of
obtaining control, with the result that if fair value has increased
since each purchase date, goodwill will be higher than that
recognised today. Any increase in fair value that has arisen is
reflected in profit or loss at the date of gaining control. Conversely,
1 If the acquirer recognised changes in the value of the investment directly in equity (i.e. the investment was classified as available-for-sale in accordance with
IAS 39), the amount recognised directly in equity as of the acquisition date should be reclassified at the acquisition date on the same basis as if the asset was
disposed (i.e., recognised in profit or loss).
6 B U S I N E S S C O M B I NAT I O N S
if there has been a decrease in fair value, this may have already
been recognised as an impairment loss in earlier periods. If not,
it will give rise to an additional charge at the date of gaining control.
2.2 Recognising and measuring assets
Identifiable assets acquired and liabilities assumed are recognised
and measured at fair value as of the acquisition date, (with
certain limited exceptions). Guidance is provided in IFRS 3R
on recognising and measuring particular assets and liabilities.
However, much of the general guidance relating to fair value
in the existing IFRS 3 is no longer included in anticipation of
a separate standard on fair value measurement being issued.
But IFRS 3R does clarify that, if an acquired asset is not intended
to be used by the acquirer, or is to be used in a manner different
from the way in which other market participants would use it,
then this factor is ignored. That is, the asset should be valued
in accordance with how it would be used by other market
participants. Although IFRS 3 was silent on this issue, the
practice that developed was consistent with this principle.
A number of these requirements differ from current practice,
and/or existing IFRS 3, and each will result in a different
amount of goodwill being reported.
While the objective of the second phase of the business
combinations project was not focused on how to account for
assets acquired and liabilities assumed after the date of
acquisition, IFRS 3R does provide accounting guidance for
certain acquired assets and assumed liabilities after the
business combination. We discuss these below.
2.2.1 Classifying and designating assets acquired and
liabilities assumed
The classification and designation of all assets acquired and
liabilities assumed are reassessed by the acquirer at the date of
acquisition, based on the contractual terms, economic conditions,
accounting policies of the acquirer and any other relevant factors
as at that date, with the exception of:
• Classification of leases in accordance with IAS 17 Leases –
classification is determined based on the contractual terms
and factors at inception of the contract, unless the contract
terms are modified at the date of acquisition.
AND C O N S O L I DAT E D F I NA N C I A L S TAT E M E N T S
• Classification of a contract as an insurance contract in
accordance with IFRS 4 Insurance Contracts – classification
is determined based on the contractual terms and factors at
inception of the contract, unless the contract terms are
modified at the date of acquisition.
IFRS 3 was silent on this point and differing practices developed.
Therefore, all financial instruments of the acquiree must be
carefully reviewed to determine how they should be classified
and designated and subsequently accounted for. For example,
the classification of financial assets as ‘held-for-sale’ or ‘held
at fair value through the profit and loss’ will need to be assessed
in addition to a re-designation (if effectiveness is achievable)
of hedging relationships. This also extends to a reassessment
of whether any embedded derivatives exist in any contracts
that relate to the assets acquired and liabilities assumed. It is
not appropriate for an acquirer to simply assume the same
classifications and designations of financial instruments that
the acquirer previously adopted. Such reassessments can
be time-consuming and may result in additional assets or
liabilities having to be remeasured to fair value.
2.2.2 Operating leases
IFRS 3R contains specific guidance relating to operating leases,
which reflects practice that has developed in applying IFRS 3.
Lessees recognise operating leases as either intangible assets or
liabilities to the extent that the terms of the lease are favourable
(asset) or unfavourable (liability) relative to current market
terms and prices.
A lessor, however, will not separately recognise an intangible
asset or liability where the terms of the lease are favourable or
unfavourable relative to market terms and prices. The extent of
any off-market terms will instead be reflected in the carrying
value of the asset subject to lease.
2.2.3 Intangible assets
Identifiable intangible assets are recognised separately from
goodwill if it is either contractual or separable. IFRS 3 currently
also requires that an asset’s fair value can be reliably measured,
but this requirement has not been carried forward in IFRS 3R.
Therefore, whenever an intangible asset can be separately
identified, it must now be recognised and measured. This
may increase the accounting complexity for some business
combinations, and therefore add time and cost, and will result in
higher post-combination amortisation charges being recognised.
2.2.4 Valuation allowances
As assets acquired are to be measured at their fair value (which
will reflect any uncertainty about future cash flows), at the
date of acquisition, it is not appropriate to present separately a
valuation allowance relating to such assets. This may be a
change from current practice for some entities, particularly
those in the financial services industry. The need to maintain
appropriate records for the period subsequent to acquisition
may require enhancements to information systems.
2.2.5 Exceptions to the recognition and/or
measurement principle
Contingent liabilities
IFRS 3R retains the same accounting requirements for contingent
liabilities as the current IFRS 3, except that the contingency
must meet the definition of a liability. That is, there must be a
present obligation arising from a past event that can be reliably
measured. Such a liability is recognised at fair value. The
determination of whether a past event has occurred is a matter
of judgment, particularly in cases of litigation claims, and it is
likely to require greater time and effort to identify. Additionally,
fewer claims may meet this criteria and fewer contingent
liabilities are likely to be recognised.
Reacquired rights
In some cases the assets of the acquiree include a right previously
granted to it by the acquirer to use one of the acquirer’s assets,
such as the licence of a brand, trade name or technology. No
account is taken of any renewal rights (either explicit or implicit)
in determining the asset’s fair value. The acquisition results in
the acquirer reacquiring that right. That reacquired right is
recognised as an identifiable intangible asset. After acquisition,
the asset is amortised over the remaining contractual period of
the contract, and will not include any renewal periods.
If the terms of the right are favourable or unfavourable compared
with market terms and prices at the date of acquisition, a
settlement gain or loss will be recognised in profit or loss.
As IFRS 3 was silent in this area, different practices have arisen.
Consequently for some entities, this may result in a significantly
different outcome for future acquisitions — in relation to both the
assets recognised and the reported results in the period of an
acquisition, and the amortisation recognised post-combination.
7
Deferred tax assets and liabilities
Consistent with IFRS 3, deferred income tax assets and liabilities
are recognised and measured in accordance with IAS 12
Income Taxes, rather than at their acquisition-date fair values.
However, IAS 12 has also been amended to change the
accounting for deferred tax benefits that do not meet the
recognition criteria at the date of acquisition, but are
subsequently recognised, as follows:
• A change arising from new information obtained within
the measurement period (i.e., within one year after the
acquisition date) about facts and circumstances existing at
the acquisition date, results in a reduction of goodwill.
• All other changes are recognised in profit or loss.
Management must therefore carefully assess the reasons for
changes in deferred tax assets during the measurement period
to determine whether they relate to facts and circumstances at
the acquisition date, or whether they arise from changes in
facts and circumstances after the acquisition date.
IAS 12 has also been amended to require any tax benefits
arising from the excess of tax-deductible goodwill over
goodwill for financial reporting purposes to be accounted for
at the acquisition date as a deferred tax asset similar to other
temporary differences.
Indemnification assets
In certain situations, particularly when there are uncertainties
surrounding the outcome of pre-acquisition contingencies
(e.g., uncertain tax positions, environmental liabilities, or legal
matters), the seller may indemnify the acquirer against an adverse
outcome. From the acquirer’s perspective, the indemnity is an
acquired asset. However, the recognition and measurement of
the indemnity asset is linked to the related indemnified item.
When the indemnified item is measured at fair value at the
date of acquisition, the indemnity asset is also measured at
fair value (and reflects uncertainty relating to the collectability
of the asset). When the indemnified item is one that is not
measured at fair value (as the item is an exception to the general
principle), or it is not recognised (as it cannot be reliably
measured), the indemnity asset is recognised and measured
using the same assumptions (subject to the assessment of
collectability). Consequently, if the related liability is not
recognised at the date of acquisition, an indemnification asset
is also not recognised. This effectively results in eliminating a
mismatch that arises today when applying IFRS 3.
8 B U S I N E S S C O M B I NAT I O N S
Subsequent to the business combination, the indemnification
asset is measured using the same assumptions as are used to
calculate the liability, (subject to the assessment of collectability
and contractual limitations on its amount). Any changes in the
measurement of the asset are recognised in profit or loss,
where changes in the measurement of the related liability are
also recognised.
Employee benefits
Consistent with current practice, assets and liabilities relating to
employee benefit plans are measured in accordance with IAS 19
Employee Benefits. Therefore, any amendments to a plan that
are made in connection with, or at the same time as, the business
combination, are considered to be a post-combination event.
Other exceptions
Consistent with the current IFRS 3, non-current assets (or
disposal groups) classified as ‘held for sale’ at acquisition date
are accounted for in accordance with IFRS 5. That is, they are
valued at fair value less costs to sell. The Board intends to
amend IFRS 5 to change its measurement principle to fair
value in order that this exception is eliminated from IFRS 3R.
Non-current assets held for sale and discontinued operations
Currently, IFRS 3 does not discuss how to account for the
acquiree’s share-based payment transactions in an acquisition,
which has led to differing practices evolving. However IFRS 3R
requires the liability arising from a share-based payment award
or an equity instrument issued to be measured in accordance
with IFRS 2, rather than at fair value. Management may
therefore need to change its approach to how such items are
considered in future acquisitions.
2.3 Assessing what is part of the exchange for
the acquiree
An acquirer must assess whether any assets acquired, liabilities
assumed, or portions of the transaction price do not form part
of the exchange for the acquiree. This means the acquirer
should evaluate the substance of arrangements entered into by
the parties before, or at the time of, the combination. Factors
such as the reasons for the other aspects of the transaction, the
party initiating the transaction or event, the nature and extent
of pre-existing relationships between the acquirer and the
acquiree or its former owners, and the timing of the overall
transaction should be considered in completing the assessment.
AND C O N S O L I DAT E D F I NA N C I A L S TAT E M E N T S
Examples of payments or other arrangements that would not
be considered part of the exchange for the acquiree include
the following:
• Payments that effectively settle pre-existing relationships
between the acquirer and acquiree, for example, a lawsuit
or supply contract. An element of the consideration is
allocated to the settlement of the relationship which can
give rise to a gain or loss recognised in profit or loss.
• Payments to compensate former owners or employees of
the acquiree for future services. In a number of businesses,
success is dependent on relationships held by the former
owners or employees (e.g., advisory service businesses,
brokers, recruitment businesses). In other businesses, the
skills of the former owners or employees may be critical.
The acquirer often locks these people into the business
going forward to ensure this is not lost and that it is
transferred to others. Invariably, this is achieved through
substantial additional payments linked to continued
employment. To date, practice has varied as to the extent to
which such payments were considered part of the
consideration paid for the business. Considerable
application guidance has been included which indicates
that, when there is a payment of ‘earn-out’ or other amounts
conditional on continued employment by the acquirer, the
payments are treated as compensation for future services
rather than as consideration. Consequently, it will be
critical that the accounting is considered before terms of
acquisition agreements are finalised or there will be nasty
surprises for many businesses.
3. Consolidated financial
statements
As a result of the changes to accounting for business combinations,
the Board reconsidered related aspects of IAS 27, primarily
those relating to non-controlling interests: accounting for
increases and decreases of ownership after control has been
obtained, and accounting for the loss of control of a subsidiary.
The basic principle underlying the changes has been the use
of the economic entity concept model — whereby all residual
economic interest holders in any part of the consolidated entity
are regarded as having an equity interest in the consolidated
entity, regardless of their decision-making ability and where in
the group the interest is held. By contrast, existing IFRS has
adopted a mixed model, applying some elements of an economic
entity concept model (e.g., when a minority interest is classified
as a component of equity) and other elements of a parent entity
model (e.g., where losses attributable to a minority interest,
that result in the minority interest becoming negative, are
allocated to the parent unless there is a binding obligation).
3.1 Allocation of losses to non-controlling
interests
When a partially-owned subsidiary incurs losses, these are to
be allocated to both controlling and non-controlling interests,
even if those losses exceed the non-controlling interest in the
equity of the subsidiary. This is significantly different from the
practice today whereby IAS 27 only permits these losses to be
allocated to the non-controlling interest if minority interests
entered into a binding obligation to cover the funding. The
controlling interest in such situations will now be higher than
it was under IAS 27.
3.2 Changes in ownership interest – without
loss of control
Changes in a parent’s controlling ownership interest that do
not result in a loss of control of the subsidiary are accounted
for as equity transactions — with the owners acting in their
capacity as owners — and therefore do not give rise to gains
or losses.
A parent may increase its ownership interest in a subsidiary by
purchasing additional shares, by having the subsidiary re-acquire
a portion of outstanding shares from non-controlling interests,
or by having the subsidiary issue new shares to the parent.
Similarly, a parent may reduce its ownership interest by selling
shares in the subsidiary, by having the subsidiary issue new
shares to non-controlling interests or by having the subsidiary
buy-back shares from the parent. When such events occur, the
carrying amounts of controlling and non-controlling interest
are adjusted to reflect the change in respective ownership
interests. To the extent that the consideration payable/receivable
for the increase/decrease in interest exceeds the carrying
value of the relevant non-controlling interest, it is recognised
directly in equity attributable to the controlling interest.
This method of accounting applies, regardless of the option
chosen to measure non-controlling interest when control was
initially obtained — that is at its fair value, or at the proportionate
share of the net assets as discussed in section 2.1.1.
9

Example:
A parent owns an 80% interest in a subsidiary which has net assets of
€4,000. The carrying amount of the non-controlling interest share is €800.
The parent acquires an additional 10% interest from the non-controlling
interest for €500. The parent accounts for this directly in consolidated
equity as follows:
Equity – non-controlling interest €400
Equity – controlling interest 100
Cash €500
This differs significantly from practice today, whereby entities
effectively have a choice of three accounting policies, in the
absence of any guiding principle in IFRS, as follows:
1. Any difference between the carrying amount of the relevant
non-controlling interest and the consideration payable is
regarded as the purchase or disposal of goodwill. This has
been by far the most common practice applied. In the
example above, this would have resulted in an increase
in goodwill of €100.
2. Accounting for a change in the non-controlling interest
as an equity transaction between owners acting in their
capacity as owners. Any difference between the carrying
amount of the relevant non-controlling interest and the
consideration payable is regarded as an increase or
decrease in equity, consistent with IAS 27R.
3. Accounting for the acquisition of a non-controlling interest
as a partial acquisition or disposal of goodwill and partially
an equity transaction.
IAS 27R effectively removes options 1 and 3 above. This, together
with the option introduced to initially measure non-controlling
interest, means that goodwill could be impacted in a number of
ways. Table 2 indicates how these combinations affect goodwill
compared with that recognised today (ignoring the impact of
other changes in IFRS 3R) once a 100% interest is held (i.e.,
the non-controlling interest has been acquired).
As common practice has been to account for changes in
ownership interest similar to an acquisition or disposal of
goodwill, management will need to adopt the new method to
measure non-controlling interests when they anticipate acquiring
the outstanding interests, in order to avoid a future reduction
in equity (representing goodwill attributable to the non-
controlling interest being acquired).
Another area of significantly different practice has been
accounting for put options offered by parent entities to non-
controlling interests, due to conflicts between IFRS 3 and IAS 32.
The revised standards do not address this area. It remains unclear
how current practices will be impacted, and management should
monitor developments in this area.
3.3 Loss of control of a subsidiary
Control of a subsidiary may be lost as the result of a parent’s
decision to sell its controlling interest in the subsidiary to another
party or as a result of a subsidiary issuing its shares to others.
Control may also be lost, with or without a change in absolute
or relative ownership levels, as a result of a contractual
arrangement or if the subsidiary becomes subject to the control
of a government, court, administrator, or regulator (e.g.,
through legal reorganisation or bankruptcy). Consistent with

Table 2: Effect on Goodwill after the change in accounting for acquisitions of non-controlling interest
New Practice – effect on goodwill compared with
Current Practice
current practice
Goodwill relating NCI – share of NCI – fair value of
to the NCI* acquired net assets business
Aquire Goodwill Goodwill recognised as difference
Lower (a)
(Option 1 above) between proceeds and carrying value
Equity Transaction
No goodwill recognised Same Higher
(Option 2 above)
Combination of above Goodwill recognised as difference between
Lower (a)
(Option 3 above) proceeds and fair value
Note (a): Generally, due to the difference in measurement, we would expect that goodwill may be slightly lower. However, the new practice may
result in significantly more or less goodwill if the acquisition of non-controlling interest takes place after a significant period of time from the
acquisition of the original controlling interest.

* NCI = non-controlling interest

10 B U S I N E S S C O M B I NAT I O N S AND C O N S O L I DAT E D F I NA N C I A L S TAT E M E N T S

the approach taken for step acquisitions, when control of a
subsidiary is lost, and an interest is retained, that interest is
measured at fair value, and this is factored into the calculation
of the gain or loss on disposal.
The gain or loss on disposal is therefore calculated as follows:
Fair value of the proceeds (if any) from the transaction
that resulted in the loss of control
+ Fair value of any retained non-controlling equity investment
in the former subsidiary, at the date control is lost
+ Carrying value of the non-controlling interest in the former
subsidiary (including accumulated other comprehensive
income attributable to it) at the date control is lost
- Carrying value of the former subsidiary’s net assets at the
date control is lost
+/- Any amounts included in other components of equity
that relate to the subsidiary, that would be required to be
reclassified to profit or loss or another component of equity
if the parent had disposed of the related assets and liabilities.
This change applies also to situations in which an entity loses
joint control of, or significant influence over, another entity.
Example:
Entity A has a 90% controlling interest in Entity B. On December 31, 2006,
the carrying value of Entity B’s net assets in Entity A’s consolidated financial
statements is €100 and the carrying amount attributable to the non-
controlling interests in Entity B (including the non-controlling interest’s
share of accumulated other comprehensive income) is €10. On January 1,
2007, Entity A sells 80% of the share in Entity B to a third party for cash
proceeds of €120. As a result of the sale, Entity A loses control of Entity B
but retains a 10% non-controlling interest in Entity B. The fair value of the
retained interest on that date is €12.
The gain on sale of the 80% interest in Entity B is calculated follows:
Cash proceeds €120
Fair value of retained non-controlling equity investment 12
€132
Less:
Carrying value of Company B’s net assets €100
Less Carrying value of the non-controlling interest 10 90
Gain on sale € 42
3.3.1 Multiple arrangements that result in loss of
control of a subsidiary
To prevent different accounting for transactions that are structured
differently, but have essentially the same economic consequences,
the Board concluded that an entity that expects to sell ownership
interests or otherwise lose control of a subsidiary through
multiple arrangements should consider whether or not the
multiple arrangements should be accounted for as a single
transaction. Although not intended to be an all-inclusive list,
IFRS 3R indicates that one or more of the following factors
may indicate multiple arrangements that should be accounted
for as a single transaction:
• The arrangements are entered into at the same time.
• The arrangements are entered into in contemplation of
one another.
• The arrangements form a single transaction designed to
achieve an overall commercial effect.
• The occurrence of one arrangement is dependent on the
occurrence of at least one other arrangement.
• One arrangement considered on its own is not economically
justified, but when considered with one or more other
arrangements, it is economically justified, for example,
when one disposal is priced below market value, that is
compensated for by a subsequent disposal priced above
market value.
4. Effective date and transition
IFRS 3R and IAS 27R come into effect for the first annual
reporting period beginning on or after 1 July 2009. Earlier
adoption is permitted, although they may not be applied to periods
beginning prior to 30 June 2007. If early adoption is elected,
both IFRS 3R and IAS 27R must be applied at the same time.
IFRS 3R is to be applied prospectively to business combinations
for which the acquisition date is on or after the beginning of the
annual period in which the standard is adopted. No adjustment
is permitted for business combinations taking place before that
date, with one exception noted below. Therefore, transactions
occurring before IFRS 3R is effective continue to apply current
IFRS 3, for example post-acquisition adjustments to contingent
consideration will continue to result in changes to the cost
of the acquisition and, consequently, to goodwill on those
acquisitions. The one exception relates to changes in deferred
tax assets of the acquiree: any change in a deferred tax benefit
acquired in a business combination before the application of
IFRS 3R, that occurs after IFRS 3R is adopted, does not adjust
goodwill, but is recognised in profit or loss for the period (or
if permitted by IAS 12, directly in equity).
11
By contrast, the changes in IAS 27R are applied retrospectively,
except in the following scenarios:
• Attribution of losses to non-controlling interests.
• Changes in ownership interest of a subsidiary that was
acquired prior to the standard being adopted.
• Loss of control of a subsidiary occurring prior to the
standard being adopted.
5. Differences between IFRS 3R and IAS 27R and US FAS 141R
and FAS 160
Description IFRS
Non-controlling interest in The acquirer has a choice to measure
an acquiree the non-controlling interest at its
proportionate share of the acquiree’s
net identifiable assets or at its fair value.
Contingent assets and The acquirer recognises a contingent
liabilities liability assumed in a business
combination if it is a present obligation
that arises from past events and its fair
value can be measured reliably.
Contingent liabilities are measured
subsequently at the higher of the
amount that would be recognised in
accordance with IAS 37 or the amount
initially recognised less cumulative
amortisation recognised in accordance
with IAS 18 Revenue.
Contingent assets are not recognised.
Definition of control Control is defined in IAS 27R as “the
power to govern the financial and
operating policies of an entity so as
to obtain benefits from its activities”.
The acquirer is the entity that obtains
control of the acquiree, applying this
definition.
12 B U S I N E S S C O M B I NAT I O N S
Restatement will therefore only be required in those circumstances
where multiple arrangements should, in substance, be accounted
for as a single transaction and an element of the transaction has
not yet been completed or was completed in the comparative
period. As a result, management will need to assess all disposal
transactions occurring during the period IFRS 3R is adopted
and the comparative period to assess if a change to the
accounting is required.
US GAAP Impact
A non-controlling interest in an acquiree Goodwill impacted, as discussed in
is measured at fair value. 2.1.1.
The acquirer recognises assets acquired Goodwill will be greater under IFRS
and liabilities assumed that arise from where contingent assets are recognised
contractual contingencies at the under US GAAP.
acquisition date. Goodwill may be impacted by differences
The acquirer recognises any other con- in the recognition and measurement of
tingency (noncontractual contingencies) contingent liabilities.
as an asset or liability at the acquisition Subsequent measurement will impact
date if it is more likely than not that it reported results subsequent to the
gives rise to an asset or a liability at acquisition.
the acquisition date.
When new information about the possible
outcomes of the contingency is obtained:
– Contingent liabilities are subsequently
measured at the higher of the
acquisition date fair value and the
amount that would be recognised by
applying Statement 5.
– Contingent assets are subsequently
measured at the lower of the
acquisition date fair value and the
best estimate of the future settlement.
Control means majority voting interest as Potentially different entities would be
explained in paragraph 2 of Accounting identified as the acquirer in a business
Research Bulletin No. 51, Consolidated combination.
Financial Statements or primary
beneficiary in accordance with FASB
Interpretation no. 46(R), Consolidation
of Variable Interest Entities.
The acquirer is the entity that obtains
control of the acquiree, applying this
definition.
AND C O N S O L I DAT E D F I NA N C I A L S TAT E M E N T S
 Description
Definition of fair value
IFRS
Fair value is the amount for which an
asset could be exchanged, or a liability
settled, between knowledgeable, willing
parties in an arm’s length transaction.
US GAAP
Fair value is defined in FASB Statement
No. 157, Fair Value Measurements, as the
price that would be received to sell an
asset or paid to transfer a liability in
an orderly transaction between market
participants at the measurement date.
Impact
Potentially different values assigned to
assets and liabilities at the acquisition
date, affecting the amount of goodwill
recognised and subsequent reported
results.

References to other standards

Exceptions to the recognition Deferred tax: Deferred tax: Differences in recognition and
and measurement principles Accounted for in accordance Accounted for in accordance with measurement of the assets and
with IAS 12. FASB Statement No. 109 Accounting liabilities affect the goodwill recognised
Employee benefits: for Income Taxes. and subsequent reported results.
Accounted for in accordance Employee benefits:
with IAS 19. Accounted for in accordance with a
Share based payments: number of US standards including,
Accounted for in accordance APB 12, and FASB statements numbered:
with IFRS 2. 43, 87, 88, 106, 112, 146 and 158.
Share based payments:
Accounted for in accordance with
FAS 123(R) Share-based Payments.

Classification of contingent Contingent consideration classified as a Contingent consideration classified as Subsequent measurement of the liability
consideration liability is either within the scope of a liability and is measured subsequently may differ, affecting the reported results.
IAS 39 or is accounted for in accordance at fair value.
with IAS 37.

Lessor – assets with
operating leases
Fair value of the asset subject to the Fair value of the asset subject to the Classification difference in the balance
lease is based on the terms of the lease. lease is measured based on market sheet and may also result in differences
conditions, independent of any lease in the subsequent reported results.
terms. A separate asset or liability is
recognised for the lease, if the terms
differ from market terms.

Effective date Business combinations for which the
acquisition date is on or after financial
years beginning on or after 1 July 2009.
Early application is permitted.
Business combinations for which the Early IFRS 3R adopters will report
acquisition date is on or after the significantly different results.
beginning of the first annual reporting
period beginning on or after 15 December
2008. Early application is prohibited.

13
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