Computation of purchase consideration :
(i) Lump Sum Method: The amount to be paid by the transferee company as consideration may be stated in the problem as a lump sum. In such a case, no calculation is required.
(ii) Net Assets Method: The amount of consideration or the amount of net assets is ascertained under this method in the following manner:
Assets taken over (at their revalued figures, if any, otherwise at their book figures).
Less: Liabilities taken over (at their agreed values, if any, otherwise at their book figures).
While determining the amount of consideration under this method care should be taken of the following:
1. The term “Assets” will always include cash in hand and cash at bank, unless otherwise stated but shall not include any fictitious asset like preliminary expenses, underwriting commission, discount on issue of shares or debentures, profit and loss account (debit balance), etc.
2. If any particular asset is not taken over by the transferee company, the same should not be included while computing purchase consideration.
3. If there is any goodwill or pre-paid expenses, the same should be included in the assets taken over unless otherwise stated.
4. The term “Liabilities” will mean all liabilities to third parties (the company being the first party and shareholders being the second party).
5. The term “Trade Liabilities” will mean trade creditors and bills payable and shall not include other liabilities to third parties, such as, bank overdraft, debentures, outstanding expenses, taxation liability, etc.
6. The term “Liabilities” shall not include any past accumulated profits or reserves, such as general reserve, reserve fund, sinking fund, dividend equalisation fund, capital reserve, securities premium account, capital redemption reserve account, profit and loss account etc. These are payable to the shareholders and not to the third parties.
7. If any fund or portion of any fund denotes liability to third parties, the same must be included in liabilities, such as, staff provident fund, workmens’ savings bank account, workmens’ profit sharing fund, workmens’ compensation fund (up to the amount of claim, if any), etc.
8. If any liability is not taken over by the transferee company, the same should not be included.
9. The term “business” will always mean both the assets and the liabilities of the company.
(iii) Net Payment Method: The amount of consideration under this method is ascertained by adding up the total value of shares and other securities issued and the payments made in the form of cash and other assets by the transferee company to the transferor company in discharge of consideration. So the consideration constitutes the total payment in whatever form either in shares, debentures, or in cash to the liquidator of the transferor company for payment to the shareholders of the transferor company. Significantly, the total payments made by the transferee company to discharge the claims of preference shareholders and/or equity shareholders of the transferor company may be construed as consideration. In fact they can be satisfied by issuing preference shares/equity shares or debentures, at par, premium or discount and partly by cash. Now the question arises, suppose the transferee company has agreed to discharge the debentures of the transferor company by issuing its own debentures whether it is possible to include the debentures issued to the debentureholders as part of consideration. In this case, according to AS-14, any payments made by the transferee company to other than the shareholders of the transferor company cannot be treated as part of consideration. Moreover, consideration implies the value agreed upon for the net assets taken over by the transferee company, hence payments made to
discharge the liabilities of the transferor company may be excluded from consideration. Therefore payments made to the debentureholders should not be considered as part of consideration and they should treated separately and discharged as per the terms of agreement. The same principles may apply to the cost of amalgamation paid by the transferee company since such payment will not form part of purchase consideration and hence ignored. A separate entry will be made by the transferee company in this regard.
It may be noted that in this study material, by consideration, under net payment method we shall mean the total payments made by the transferee company to the shareholders of the transferor company for the value of net assets taken over which would have been available to the shareholders of the transferor company had there been no merger. Therefore, any payments made to debentureholders or to discharge the liabilities of the transferor company by the transferee company are excluded from the calculation of consideration. The practical problems in this study material are also worked out accordingly.
While determining the amount of consideration under this method, care should be taken of the following:
1. The value of assets and liabilities taken over by the transferee company are not to be considered in calculating the consideration.
2. The payments made by the transferee company for shareholders, whether in cash or in shares or in debentures must to be taken into account.
3. Where the liabilities are taken over by the transferee company and subsequently discharged such amount should not be added to consideration.
4. When liabilities are taken over by the transferee company they are neither deducted nor added to the amount arrived at as consideration.
5. Any payments made by the transferee company to some other party on behalf of the transferor company are to be ignored.
6. If the liquidation expenses of the transferor company are paid by the transferee company, the same should not be taken as a part of the consideration.
(iv) Shares Exchange Method: In this method, the consideration is ascertained on the basis of the ratio in which the shares of the transferee company are to be exchanged for the shares of the transferor company. This exchange ratio is generally determined on the basis of the value of each company’s shares.
Illustration.
Following is the balance sheet of A Ltd. as on 31st March, 2014:
| Particulars | Amount (Rs.) | |
| I EQUITIES AND LIABILITIES | ||
| 1 Shareholders’ funds | ||
| (a) Share Capital | ||
| Authorised, Issued subscribed and paid up capital | ||
| 14% Preference shares of Rs. 100 each | 7,50,000 | |
| Equity shares of Rs. 10 each, fully called up and paid up | 15,00,000 | 22,50,000 |
| (b) Reserve and surplus | ||
| General reserve | 9,00,000 | |
| 2 Non-current liabilities | ||
| 15% Debentures | 7,00,000 | |
| 3 Current Liabilities | ||
| Current liabilities | 5,00,000 | |
| TOTAL | 43,50,000 | |
| II ASSETS | ||
| 1 Non-current Assets | ||
| (a) Fixed Assets | ||
| Tangible Assets & intangible Assets | 32,50,000 | |
| (b) Investment | 6,00,000 | |
| 2 Current Assets | ||
| Misc Current Assets | 5,00,000 | |
| TOTAL | 43,50,000 |
X Ltd agreed to take over the assets and liabilities on the following terms and conditions:
(i) When consideration calculated under Net Assets method
(a) Discharge 15% debentures at a premium of 10% by issuing 15% debentures of X Ltd.
(b) Fixed assets 10% above the book value.
(c) Investments at par value.
(d) Current assets at a discount of 10%.
(e) Current liabilities at book value.
(ii) When consideration calculated under Net Payment method
(a) Discharge the debenture holders of A Ltd. at 10% premium by issuing 15% debentures of X Ltd.
(b) Preference shareholders are discharged at a premium of 10% by issuing 15% preference shares of Rs.100 each.
(c) Issue 3 equity shares of ` 10 each for every 2 equity shares in X Ltd. and pay cash @ ` 3 per equity share.
Calculate consideration under:
(i) Net assets method; and (ii) Net payment method respectively.
Solution
Calculation of Purchase Consideration
(i) Net Asset Method:
(Rs. in ‘000’s)
| Value of assets taken over: | ||
| Fixed assets | 35,75 | |
| Investments | 6,00 | |
| Current assets | 4,50 | |
| Total assets | 46,25 | |
| Less: Liabilities taken over : | ||
| 15% debentures | 7,70 | |
| Current liabilities | 5,00 | 12,70 |
| 33,55 |
(ii) Net Payment Method:
| (Rs. in ‘000’s) | Mode of Payment | |
| For preference shareholders | 8,25 | 15% Pref. Shares in X Ltd. |
| For equity shareholders: | ||
| 3 equity shares for every | ||
| 2 shares = | 22,50 | Equity shares |
| ` 3 per share= | 4,50 | Cash |
| Consideration | 35,25 |
NB: Consideration for debentureholders has not been included. These debentures are assumed to be taken over and discharged by X Ltd. by issuing 15% debentures.