Question

Question 1 X Company Purchases a (100%) controlling interest in Y Company by issuing $2,000,000 worth of common shares. An agreement was drawn whereby X Company would pay 10% of any earnings in excess of $750,000 to Y's shareholders in the first year following the acquisition. On that date, X's shares had a market value of $80 per share. Required (show your work and document any assumptions): a) Assuming that Y's net income was $950,000, prepare any journal entries (for company X) that you feel may be necessary to reflect Y's results under IFRS 3 Business Combinations. Assume that on the acquisition date no provision was made for the contingent consideration. (3 marks) b) Assuming that the agreement also called for Y's shareholders to be compensated with 1,250 shares for any decline in X's share price, what additional journal entries would be required under IFRS 3, if the market value of x's shares was expected to drop to $64 within the year, and at the end of the year the shares were indeed valued at $64? Include the initial entry at the acquisition date as well as the subsequent entry to settle the contingent consideration. (3 marks)

Answer 1

X company purchases 100% controlling interest in Y company by issuing $ 2,000,000 worth of common shares.

On that date X’s Share market value is $ 80 per share.

So, Number of shares X company issued for purchasing 100% controlling interest in Y are 25,000 Shares ($2,000,000/$80)

JOURNAL Entries for company X are:

Business Combination Account Dr. 2,000,000

To Y company Account Cr. 2,000,000

(Being X company Purchases 100% interest in Y company)

Y company Account        Dr.                                                    2,000,000

       To Equity Share Capital Account   Cr.                                                       2,000,000

(Being X company issues Shares to Y company)

Note: As question does not provide the information regarding Assets and Liabilities of Y company that X acquired, so Instead of that Y company Account is debited.

X company would pay 10% of earnings in excess of $750,000 to Y’s shareholders.

Now, Y’s net income was $950,000

Additional payment that X would pay is $20,000 [($950,000-$750,000)*10%]

Statement of Profit & Loss Account       Dr.              20,000

To Contingent Liability Account Cr. 20,0000

   Y company Account Dr.                                 20,000

To Cash Account Cr. 20,000

Y’s shareholders to be compensated with 1,250 shares for any decline in X’s share price. Now market value of X’s share is dropped to $64 within a year. X company Compensate to Y's Shareholders for $80,000 ( 1,250 shares * $64)

Journal Entry:

Y company Account        Dr.                                                    80,000

       To Equity Share Capital Account   Cr.                                                       80,000

(Being Y company Shareholders compensated in lieu of decrease in X’s share price)