Consolidation vs M&A case
Hello,
Maybe my question will seem very silly to you but I would like to understand the difference between what I learned in consolidation class and what we see in the case of m&a acquisitions:
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In consolidation, we have learned that in full consolidation, we add the equity of the target (% of share capital of reserves and profit) in the equity of the consolidated entity.
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In the case of m&a acquisitions (in book value), for example a company A acquires a company B 100% in equity, it is explained that the equity of B disappears, in this case to which accounting line this value is broken down? Because I understand that in this case the target is paid by issuing shares, but then from an accounting point of view, shares are issued in nominal value (what about the reserves of B and its result, is this integrated in the share premium?)
I know that on a real level, there is an increase in the equity value/market cap of A by issuing shares, so B no longer exists, but how can I explain the difference between the classical consolidation method, which consists of adding the equity of B, when in reality, on an accounting level, it is also explained that those of B disappear?
I think I need a concrete case to understand.
Thank you for your valuable time.
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There are two different transactions being discussed here: Full consolidation: in which a majority stake of target company's shares is purchased (usually over 50%), and in this case the full assets and non-equity liabilities are added to the acquirers balance sheet, and all items from the P&L are combined with the acquirers. Then you have a line called non-controlling interests on both P&L and balance sheet liabilities to account for the %age of the target company not owned.
The second case is a merger in which one or both of the companies in the transaction disappear. I honestly don't know yet what the accounting looks like for that transaction, maybe someone else can explain.
For me when a company take a stake of 100% in a target, it’s like an acquisition, not a merger and we have to consolidate so it’s the same thing, I don’t understand
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Ok, giving this a try - your question is tough to answer because you don’t really understand the concepts here.
What is consolidation?
When a company owns subsidiaries (i.e. is a « group of companies »), each company will have its own reporting requirements. The parent company will also produce consolidated accounts that represent the total flows & economic value (assets and liabilities) owned by itself as well its subsidiaries.
When a Company acquires another, it will allocate its assets and liabilities based on the deal value (the purchase price allocation). This happens whether the deal is funded with debt or equity.
Say it acquires a company for 100 on a debt free, cash free basis. That means the net value of assets & liabilities acquired is 100. This could be between 120 of assets, and 20 of liabilities (payables, provisions…)
Legally speaking, the acquirer adds an asset worth 100 on its assets: its the value of the shares acquired. This is what you would see on the parent’s unconsolidated accounts.
On a consolidated basis, the group adds 120 of assets (PPE, inventory, receivables, intangibles and goodwill). It will also add 20 to its liabilities.
The funding method determines the rest:
For the equity:
1) it does not matter whether the shares are issued to the seller’s shareholders, or to other investors in exchange for cash.
2) the equity of the target has no real impact on the parent’s balance sheet. What matters is the equity of the parent.
Ok thank you very much for this very good answer. So what you explained is that acquiring a company or owning subsidiaries is the same thing, the difference is accounting:
- The impact of the acquisition appears in the corporate accounts of the acquirer so the subsidiary disappears in the corporate accounts
- On the other hand, the consolidated accounts do add the value of the subsidiary's assets and liabilities
What is the difference between own a subsidiary (entity still existing) and acquire a company (target disparears) ? How a company choose ? In both case there are more than 50% stake ?
What happened with the acquired business depends on a number of inputs. Tax tends to be the primary one.
Typically, the starting point is to merge the acquired holding company into an owned subsidiary. Afterwards, there can be further reorganisations to optimize tax structure and facilitate synergies. This is all internal cooking and not visible from outside the group.
Will try to give it a shot:
So basically, lets go through a typical case step by step:
Company A acquires 100% of Company B for $1bn (purchase price in Equity Value) while Company B has a $500m adjusted book value of Shareholder's Equity. The acquisition paid cash and debt free
1) first, on the balance sheet of Company A (its own reporting), in the Assets side, you will account for:
Nothing happens in the Liabilities and Shareholders Equity side. This is the sole thing happening in the BS of Company A and Company B continues to report on its own.
2) secondly, under IFRS, Company A will have to also report consolidated accounts because of the size of the group
For this exercise, you always take the Balance Sheet of Company A as a starting point
This I think should be the typical easy process of accounting for an acquisition. you note that the Equity of Company B do in fact disappear while doing the first step, but you have to always remember that even if Company A acquires Company B, Company B still exist as a legal entity, which means that you have to go through the second step of consolidating. Once all of this is done, you have the possibility to go through a juridical reorganisation and to proceed to an effective merger etc. However, if you go through the financial statements of big listed companies, you will realise that they just leave these acquisitions like that and that they have a list of one hundred subsidiaries owned at 100% in the appendices 😂
Sorry for my level of english
Wahh, thank you very much for this incredible answer, I fully understand !!
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