[FAQs] on Accounting Aspects of Corporate Restructuring – From AS-14 to IND AS-103

• Corporate restructuring implies a process where the legal ownership or operational control or other structures of the company are reorganized.
• As per Section 232 of the Companies Act, 2013, the accounting treatment for corporate restructuring shall be in accordance with the accounting standards prescribed under Section 133 of the Companies Act, 2013.
• Earlier, accounting for mergers and amalgamation transactions was dealt using the rules laid down by Accounting Standard -14 – ‘Accounting for Amalgamation’ (AS-14)
• However, accounting treatment of mergers and acquisitions (M&A) have undergone a drastic change with the introduction of IND AS-103 – Business Combination.
• Business Combinations is a transaction or event where an acquirer obtains control of one or more businesses. It is the process under which two or more business organizations or their net assets are brought under common control in a single business entity.
• As per IND AS 103, all business combinations are accounted using the purchase method that considers the acquisition date fair values of all assets, liabilities and contingent liabilities of the Transferor Company.
• Certain major differences between AS-14 and IND AS-103 are as follows –

(a) Method of Accounting for business combination

Under AS-14, companies were recording for business combination between commonly controlled enterprises using purchase method. Due to this, tax benefit for goodwill amortization was available while computing book profit for MAT purpose.

Under IND AS-103, it is mandatory to use pooling of interest method for business combination between commonly controlled enterprises. As a result of this accounting alternatives gets restricted and the consequent tax benefits will also be not available.

(b) Appointed date v. Effective date

In court approved merger, demerger and other restructuring accounting was done from the appointed date once the court order became applicable. However, with the implementation of IND AS-103 Business combinations, accounting for business combination should be done on the date on which the acquirer obtains control, i.e. from effective date.

(c) Accounting for goodwill

AS-14 provided an accounting choice to compute the goodwill at the fair value of assets or at the net asset value. However, this choice is not available in IND AS-103, as the value of goodwill has to be computed using the fair value of the assets taken over. AS-14 provides for amortization of goodwill over a period of five years. IND AS-103 prohibits amortization of goodwill and is required to test goodwill for impairment annually. This will result in a volatile profit and loss account. Goodwill amortization was available as tax deductible item while computing MAT liability. This is not available in the IND AS.

• The Institute of Chartered Accountants of India (ICAI) has formulated Accounting Standard (AS) – 14 ‘Accounting for Amalgamation’.
• AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies, as well as treatment of resultant of goodwill or reserves.
• As per AS-14, goodwill or capital reserve are created/accounted where the amalgamation is in the ‘nature of purchase’.
• Goodwill arising on amalgamation is a result of excess consideration paid as compared to the net assets of Transferor Company. Goodwill represents future income earning capacity; hence it is treated as an intangible asset.
• Capital reserve is the excess of the fair value of the net identifiable assets acquired over the purchase price. In other words, where the value of net assets exceeds the purchase consideration agreed, it results in capital reserve.

• Demerger is a mode of corporate restructuring by which a business unit is separated and then formed into an independent entity. Hence, demerger is a corporate partition/division of an existing company into two or more companies.
• Accounting Standard-14 (Accounting for Amalgamations) is applicable only in case of amalgamation and not in case of demerger. AS-14 lays down the accounting and disclosure requirements in respect of amalgamations of companies and treatment of goodwill or reserves.
• In the scheme of arrangement between Sony India Private Limited (Sony India) and Sony Software Centre Private Limited (Sony Software), the Delhi High Court, while approving scheme of arrangement clarified that AS-14 is applicable only to amalgamations and not to demerger. Similar ruling given by Gujarat High court in case of Gallops Realty Pvt. Ltd.

• Corporate restructuring implies a process where the legal ownership or operational control or other structures of the company are reorganized.
• As per Section 232 of the Companies Act, 2013, the accounting treatment for corporate restructuring shall be as per the accounting standards prescribed u/s 133.
• Earlier, accounting for mergers and amalgamation was dealt using the rules given by the Accounting Standard -14 – ‘Accounting for Amalgamation’ (AS-14). However, accounting treatment of mergers and acquisitions (M&A) have undergone a drastic change with the introduction of IND AS-103 – Business Combination.
• Given below is the distinction between AS-14 and IND AS-103:

• A scheme of merger or amalgamation implies a process where the legal ownership or operational control or other structures of the company are reorganized.
• The Institute of Chartered Accountants of India (ICAI) has formulated Accounting Standard (AS) – 14 ‘Accounting for Amalgamation’.
• AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies, as well as treatment of resultant of goodwill or reserves.
• As per AS-14, amalgamation may be either in the nature of merger or in the nature of purchase.
• In case of amalgamation in the nature of merger, the identity of the reserves is retained and shall be reflected in the financial statements of the Transferee Company in the same form in which they appeared in the balance sheet of the transferor company prior to amalgamation.
• General reserve of the Transferor Company remains part of general reserve of the Transferee Company and similarly, Capital Reserve or Revaluation Reserve forms part of the Capital or Revaluation Reserve of the Transferee Company.
• Consequently, reserves available for distribution of dividends prior to amalgamation would also be available for distribution of dividends post amalgamation.
• Where amalgamation is in the nature of purchase, none of the reserves are retained in the books of the Transferee Company. In other words, none of the reserves are recorded in the books of the Transferee Company. However, only statutory reserves retain the character and recorded in the Balance Sheet of Transferee Company.

• A scheme of merger or amalgamation implies a process where the legal ownership or operational control or other structures of the company are reorganized.
• AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies. As per AS-14, amalgamation may be either in the nature of merger or in the nature of purchase.
• The pooling of interest method is used in case of amalgamation in the nature of merger. Since merger is a combination of two or more entities, there is no need to restate the carrying amounts (i.e. book values) of assets and liabilities. Thus, only minimal changes are made in aggregating the financial statements of the amalgamating companies.
• Following are the accounting rules under this method:

– Assets and liabilities of the Transferor Company are incorporated at their book value.

– In preparing the Transferee Company’s financial statements, the assets, liabilities and reserves (capital and revenue) of the Transferor Company should be recorded at their existing carrying amounts, as on the date of amalgamation.

– The P&L A/c balance of Transferor Company should be combined with P&L A/c balance of the Transferee Company or transferred to the General Reserve, if any.

– If there are any conflicting accounting policies between the companies, the same shall be resolved and a uniform set of accounting policies to be adopted after amalgamation. The effects of changes in accounting policies on the financial statements should be reported as per Accounting Standard (AS-5), ‘Prior Period Items and Changes in Accounting Policies’.

– The difference between the amount recorded as share capital issued by Transferee Company (plus any additional consideration) and the amount of share capital of the Transferor Company should be adjusted in reserves.

– If the consideration paid by Transferee Company is less than the share capital of Transferor Company, such difference is added in Capital Reserves of the Transferee Company. Such addition to capital reserve is not available for the purpose of distribution of dividends to shareholders and/or bonus shares.

– If the consideration paid by Transferee Company exceeds the share capital of Transferor Company, following shall are the accounting rules –

• • • The differential amount is capital loss and reduced from Reserves. Such loss is adjusted against capital reserves and then against revenue reserves, if required.
    • However, if capital reserves and revenue reserve are insufficient, P&L A/c shall be used.
    • But, P&L A/c cannot be used directly for such appropriation, and the difference amount is transferred from P&L A/c to the revenue reserves. Thus, no direct debit to the P&L A/c
    • If there is insufficient balance in the P&L A/c, the difference should be reflected on the assets side of the balance sheet in a separate heading.

• The Institute of Chartered Accountants of India (ICAI) has formulated Accounting Standard (AS) – 14 ‘Accounting for Amalgamation’. AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies.
• As per AS-14, goodwill is accounted where the amalgamation is in the ‘nature of purchase’.
• Goodwill arising on amalgamation is a result of excess consideration paid as compared to the net assets of Transferor Company.
• Goodwill arising on amalgamation represents a payment made in anticipation of future income. Hence, goodwill is amortized against future income on a systematic basis, over its useful life. It is amortized over a maximum period of five years, unless a longer period can be justified.
• The following factors are to be taken into account in estimating the useful life of goodwill:

– the future estimated life of the business or industry;

– the effects of product obsolescence, changes in demand and other economic factors;

– the service life expected of key individuals or groups of employees;

– expected actions by competitors or potential competitors;

– legal, regulatory or contractual provisions affecting the useful life

• The Institute of Chartered Accountants of India (ICAI) has formulated Accounting Standard (AS) – 14 ‘Accounting for Amalgamation’. AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies.
• Following details of amalgamations (of every type) shall be disclosed in the first financial statements after the amalgamations:

– names and general nature of business of the amalgamating companies;

– effective date of amalgamation for accounting purposes;

– the method accounting used to reflect the amalgamation; and

– particulars of the scheme sanctioned under a statute.

• For amalgamation under the pooling of interest method, following additional disclosures are required to be made in the first financial statements following the amalgamation:

– description and number of shares issued, together with the percentage of each company’s equity shares exchanged to carry-out the amalgamation;

– the amount of any difference between the consideration and the value of net identifiable assets acquired, and the treatment thereof.

• For amalgamations under the purchase method, following additional disclosures are required to be made in the first financial statements following the amalgamations:

– consideration for the amalgamation and a description of the consideration paid or payable,

– the amount of any difference between the consideration and the value of net identifiable assets required, and the treatment thereof including the period of amortization of any goodwill arising on amalgamation.

• Business Combination is a transaction or event where an acquirer obtains control of one or more businesses. It is the process under which two or more business organizations or their net assets are brought under common control in a single business entity.
• As per Indian Accounting Standard 103, (AS 103) all business combinations are accounted using the purchase method that considers the acquisition date fair values of all assets, liabilities and contingent liabilities of the Transferor Company.
• Common control business combination means a business combination involving entities or businesses in which all the combining entities or businesses are ultimately controlled by the same party, both before and after the business combination. Common control business combinations include transactions such as transfer of subsidiaries or businesses, between entities within group.
• As per IND AS-103, business combinations involving entities or businesses under common control shall be accounted for using the pooling of interest method.
• As per the pooling of interest method, following shall be accounting treatment in books of the Transferee company:

(a) The assets and liabilities of the combining entities are reflected at their carrying amounts.

(b) No adjustments are made to reflect fair values or recognize any new assets or liabilities. The only adjustments that are made are to harmonize accounting policies.

(c) The financial information in the financial statements in respect of prior periods should be restated as if the business combination had occurred from the beginning of the earliest period presented in the financial statements, irrespective of the actual date of the combination.

(d) The consideration for the business combination may consist of securities, cash or other assets. Securities shall be recorded at face value. In determining the value of the consideration, assets other than cash shall be considered at their fair values.

(e) The retained earnings appearing in the Balance Sheet of Transferor company is aggregated with the corresponding balance appearing in the Balance Sheet of the Transferee company. Alternatively, it is transferred to General Reserve, if any.

(f) The identity of the reserves shall be preserved and shall appear in the financial statements of the Transferee company in the same form in which they appeared in the financial statements of the transferor company.

(g) The excess, if any, between the amount recorded as share capital issued plus any additional consideration in the form of cash or other assets and the amount of share capital of the transferor is recognized as goodwill in the financial statements of the Transferee company; in case of any deficiency, the same shall be treated as capital reserve.

• The Institute of Chartered Accountants of India (ICAI) has formulated Accounting Standard (AS) – 14 ‘Accounting for Amalgamation’. AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies.
• There are two methods of accounting for amalgamations:

i. the pooling of interest method – used in amalgamation in nature of merger,

ii. the purchase method – used in amalgamation in nature of purchase.

• Corporate Reconstruction means re-arranging business of a company for increasing its efficiency and profitability. It involves dramatic changes in a company to achieve its objectives.
• Reconstruction is a process of significantly changing a company’s business model, management team or financial structure to meet the challenges and increase shareholders’ value.
• Following are types of reconstruction –

(1) External Reconstruction

– External reconstruction is a process where a company undergoes a change, through mergers, amalgamations acquisitions etc.

– It is an arrangement whereby the assets and liabilities of two or more companies come under the control of newly formed company.

– External reconstruction is a situation where an existing company is liquidated and taken over by another company and there is transfer of assets and liabilities.

– Shareholders of transferor company are issued shares in the newly formed Transferee company, based on agreed share exchange ratio.

– External reconstruction facilitates growth of a company, through economies of scale, reducing competition, technological advantage, higher profitability, synergy benefit etc.

(2) Internal Reconstruction

– Internal reconstruction is a method where an arrangement is made by a company to improve its financial position without going through liquidating.

– When a company incurs loss for number of years, the balance sheet does not reflect the true position of the business. Generally, a higher net worth is depicted, than the real one.

– Here, the assets are overvalued and it has many intangible assets and fictitious assets. Such a situation does not depict a true picture of financial statements.

– In this case of internal reconstruction, the assets are revalued, liabilities are negotiated, and losses suffered are written-off by reducing the paid-up value of shares and/or varying the rights attached to different classes of shares.

– However, the existing company is not liquidated.

– Internal reconstruction may be done through cost reduction through closure of units, termination programs, or organizational restructuring involving decentralization etc.

• We observe that external reconstruction is a much wider and complex activity as compared to internal reconstruction. Basically, external reconstruction is growth-oriented process whereas internal reconstruction is survival-oriented process. Both are vital for specific business scenario.

• Corporate restructuring implies a process where the legal ownership or operational control or other structures of the company are reorganized.
• As per section 232 of Companies Act, 2013, the accounting treatment for corporate restructuring shall be as per the accounting standards prescribed under section 133.
• Earlier, accounting for mergers and amalgamation was dealt using the rules given by the Accounting Standard – 14 – ‘Accounting for Amalgamation’ (AS-14).
• However, accounting treatment of mergers and acquisitions (M&A) have undergone a drastic change with the introduction of IND AS-103 – Business Combination.
• The principles of IND-AS 103 Business combination and IFRS – 3 are similar in nature.
• However, there are only few differences between in IND – AS 103 and IFRS – 3, which are given below –

(a) IFRS-3 does not cover business combinations of entities under common control. However, IND-AS 103 provides guidance in this respect.

(b) IFRS-3 requires bargain purchase gain arising on business combination to be recognized in Profit & Loss Account. However, IND-AS 103 requires that the bargain purchase gain to be recognized in other comprehensive income and accumulated in equity as capital reserve.

However, where there is clear evidence of the business combination as a bargain purchase, it shall be recognized directly in equity as capital reserve.

• The main reason for this difference is that the recognition of such gains in Profit & Loss Account would result into recognition of unrealized gains as the value of net assets is determined on the basis of fair value of net assets acquired.

• The Institute of Chartered Accountants of India (ICAI) has formulated Accounting Standard (AS) – 14 ‘Accounting for Amalgamation’. AS-14 lays down the accounting and disclosure requirements in respect of amalgamation of companies.
• As per AS-14, goodwill is accounted where the amalgamation is in the ‘nature of purchase’. Goodwill arising on amalgamation is a result of excess consideration paid as compared to the net assets of Transferor Company.
• Goodwill arising on amalgamation represents a payment made in anticipation of future income. Hence, goodwill is amortized against future income on a systematic basis, over its useful life. It is amortized over a maximum period of 5 years, unless a longer period can be justified.
• The following factors are to be taken into account in estimating the useful life of goodwill:

– the future estimated life of the business or industry;

– the effects of product obsolescence, changes in demand and other economic factors;

– the service life expected of key individuals or groups of employees;

– expected actions by competitors or potential competitors;

– legal, regulatory or contractual provisions affecting the useful life

• AS-14 differentiates between goodwill and capital reserve, given as under –

– Goodwill arising on amalgamation is a result of excess consideration paid as compared to net assets of Transferor Company. Goodwill represents future income earning capacity; hence it is treated as an intangible asset.

– Capital reserve is the excess of the fair value of the net identifiable assets acquired over the purchase price. In other words, where the value of net assets exceeds the purchase consideration agreed, it results in capital reserve.