Example 1The following information is given as at 31 March 20X1P Ltd. S Ltd.Non-current Assets:PPE 2,000 500Investment in Subsidiary 1,000Net Current Assets 2,000 5005,000 1,000Issued Capital 500 1,000Reserves and Surplus 4,5005,000 1,000P Ltd. acquired 100% of shares of S Ltd. on 31 March 20X1 for` 1,000.Since P Ltd. has acquired S Ltd., we will have to determine goodwill / capitalreserve. Let us understand why goodwill / capital reserve arises in case ofconsolidation, and what would be the interpretation of the same.© The Institute of Chartered Accountants of IndiaADVANCED ACCOUNTING10.22In the given case, P Ltd. acquired all the shares of S Ltd. by paying` 1,000. Thispayment (i.e., purchase consideration) would be made by P Ltd. to theshareholder(s) of S Ltd. (hence the transfer of this amount would not appear in thebooks of S Ltd.).By paying` 1,000, P Ltd. has acquired ‘control’ over S Ltd. This acqu isition is quitedifferent from the concept of amalgamation done in accordance with AS 14, thoughthe concept of goodwill / capital reserve is similar. Under AS 14, the targetcompany would generally liquidate, and all assets and liabilities would betransferred from the Selling Company to the Purchasing Company. In case ofconsolidation, P Ltd. is acquiring ‘control’ i.e., by way of acquiring equity shares in SLtd.. Thus, S Ltd. continues to exist, and the assets and liabilities of S Ltd. are nottransferred to P Ltd., but instead continue to remain with S Ltd. only. However, sincein substance, acquisition has taken place (albeit through transfer of control), thepurchase consideration of` 1,000 will be compared with the net worth ofS Ltd., which is` 1,000. Since amount paid (i.e., purchase consideration) equals thenet worth, no goodwill / capital reserve is recognized. In case the amount paid (i.e.,purchase consideration) would be higher / lower than the net worth of S Ltd., suchdifference would be recognized in Goodwill / Capital Reserve respectively.
Question
Example 1The following information is given as at 31 March 20X1P Ltd. S Ltd.Non-current Assets:PPE 2,000 500Investment in Subsidiary 1,000Net Current Assets 2,000 5005,000 1,000Issued Capital 500 1,000Reserves and Surplus 4,5005,000 1,000P Ltd. acquired 100% of shares of S Ltd. on 31 March 20X1 for 1,000.Since P Ltd. has acquired S Ltd., we will have to determine goodwill / capitalreserve. Let us understand why goodwill / capital reserve arises in case ofconsolidation, and what would be the interpretation of the same.© The Institute of Chartered Accountants of IndiaADVANCED ACCOUNTING10.22In the given case, P Ltd. acquired all the shares of S Ltd. by paying 1,000. Thispayment (i.e., purchase consideration) would be made by P Ltd. to theshareholder(s) of S Ltd. (hence the transfer of this amount would not appear in thebooks of S Ltd.).By paying 1,000, P Ltd. has acquired ‘control’ over S Ltd. This acqu isition is quitedifferent from the concept of amalgamation done in accordance with AS 14, thoughthe concept of goodwill / capital reserve is similar. Under AS 14, the targetcompany would generally liquidate, and all assets and liabilities would betransferred from the Selling Company to the Purchasing Company. In case ofconsolidation, P Ltd. is acquiring ‘control’ i.e., by way of acquiring equity shares in SLtd.. Thus, S Ltd. continues to exist, and the assets and liabilities of S Ltd. are nottransferred to P Ltd., but instead continue to remain with S Ltd. only. However, sincein substance, acquisition has taken place (albeit through transfer of control), thepurchase consideration of 1,000 will be compared with the net worth ofS Ltd., which is` 1,000. Since amount paid (i.e., purchase consideration) equals thenet worth, no goodwill / capital reserve is recognized. In case the amount paid (i.e.,purchase consideration) would be higher / lower than the net worth of S Ltd., suchdifference would be recognized in Goodwill / Capital Reserve respectively.
Solution
The text provided is a detailed explanation of how goodwill and capital reserve arise in the case of consolidation, specifically when one company acquires another. In this example, P Ltd. acquires all shares of S Ltd. for a purchase consideration of 1,000. This purchase consideration is the amount paid by P Ltd. to the shareholders of S Ltd. to gain control over the company.
The acquisition is different from an amalgamation as per AS 14, where the target company would generally liquidate and all assets and liabilities would be transferred from the selling company to the purchasing company. In the case of consolidation, S Ltd. continues to exist and its assets and liabilities remain with it.
However, since in substance an acquisition has taken place through the transfer of control, the purchase consideration of 1,000 will be compared with the net worth of S Ltd., which is also 1,000. Since the amount paid equals the net worth, no goodwill or capital reserve is recognized. If the purchase consideration was higher or lower than the net worth of S Ltd., the difference would be recognized in Goodwill or Capital Reserve respectively.
Similar Questions
A goodwill is created when . A. Purchase price exceeds the net identifiable assets. B. Acquirer’s P/E is lower than target’s. C. Acquirer’s pro forma EPS is lower. D. Purchase price exceeds PPE.
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