Post on 23-Dec-2015
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Companies Taking Over Other Business
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Introduction
Limited companies often expand their businesses by taking over another business as a going concern
Business taking over may be in the form of an acquisition or an exchange of shares
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Acquisition
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Acquisition
Sole proprietorship, partnership or Limited company
Liquidation
Realization account
Purchasing company
Business purchase account
Asset+ liabilities
Shares, debentures or cash
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Seller’s book
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AcquisitionSeller’s Book
Transfer of assets to the realization account
Dr. Realization
Cr. Assets (at net book values)
Expenses paid for realization Dr. Realization
Cr. Cash
Sale proceeds from disposing of those assets which are not taken over
Dr. Cash
Cr. Realization
Transfer of liabilities to the realization account
Dr. Liabilities
Cr. Realization
Liabilities settled by the company itself Dr. Liabilities
Cr. Cash
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Acquisition
Seller’s Book
Discounts received on the settlement of creditors by the company itself
Dr. Creditors
Cr. Realization
Purchase consideration agreed upon Dr. Purchasing company
Cr. Realization
Profit on realization
(Reverse the entries for any loss on realization)
For Sole Trader
Dr. Realization
Cr. Capital
For Partnership
Dr. Realization
Cr. Partners’ Capital
For Limited Company
Dr. Realization
Cr. Sundry Shareholders
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Acquisition
Seller’s Book
Transfer of balances from partners’ current accounts to the capital accounts
Dr. Partners’ Current
Cr. Partners’ Capital
(for partnership only)
Transfer of balances from the profit and loss account and reserve accounts to the sundry shareholders account
Dr. Profit and Loss/Reserves
Cr. Sundry Shareholders
(for limited company only)
Receipt of cash, shares or debentures from the purchasing company for the settlement of the purchase consideration
Dr. Cash/Shares/Debentures in purchasing company
Cr. Purchasing company
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AcquisitionSeller’s Book
Distribution of cash, shares or debentures between the partners or shareholders
For Sole Trader
Dr. Capital
Cr. Cash/Shares/Debentures in purchasing company
For partnership
Dr. Partners’ Capital
Cr. Cash/Shares/Debentures in purchasing company
For Limited Company
Dr. Sundry Shareholders
Cr. Cash/Shares/Debentures in purchasing company
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Buyer’s book
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Acquisition
Buyer’s Book
Assets taken over at their revised values Dr. Assets
Cr. Business Purchase
Liabilities taken over Dr. Business Purchase
Cr. Liabilities
Purchase consideration agreed upon Dr. Business Purchase
Cr. Vendor
Profit on the acquisition Dr. Business Purchase
Cr. Capital Reserve
Loss on the acquisition Dr. Goodwill
Cr. Business Purchase
Settlement of the purchase consideration by cash and/or issuing shares and debentures
Dr. Vendor
Cr. Cash/Share Capital/Debentures
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Example 1
Taking over a sole traders
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On 31 Dec 1997 Sino Trading Company Ltd. Acquired the business of K. Chan The purchase consideration was $350000 cash. The company revalued the assets taken over as follows:
Machinery $180000Motor vehicles $70000Stock $40000Debtors $50000
Balance Sheet as at 31 Dec 1997 (before takeover)Sino trading co. K. Chan
Land & Buildings $300000 -Machinery 260000 $185000Furniture & Fittings 70000 -Motor Vehicles 130000 68000Stock 84000 43000Debtors 98000 52000Cash 420000 7000
1362000 355000Share capital/capital 1000000 352000Profit and loss 320000 -Creditors 42000 3000
1362000 355000
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RealizationMachinery 185,000Motor Vehicles 68,000Stock 43,000Debtors 52,000Capital – Profit on Realization 5,000 (bal. fig.)
Sino Trading – purchase consideration 350,000
Creditors – taken over 3,000
353,000 353,000
Sino Trading Company Ltd.Realization 350,000 Cash 350,000
In K. Chan’s Book (Seller)All assets and liabilities taken over should be statedAt book value before the takeover in the realizationaccount
CashBal b/ f 7000 Capital 357000Sino trading co. 350000
357,000 357000Capital
Bal b/f 352000Realization –profit 5000
Cash 357000
357000 357000
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In Sino Trading Company Ltd.’s Book (Buyer’s Book)
Business Purchase
Cash – purchase consideration 350,000
Creditors 3,000 Machinery 180,000Motor Vehicles 70,000Stock 40,000Debtors 50,000
Goodwill (bal. fig.) 13,000
353,000 353000
Assets and liabilities taken over should be Stated at their revised values in the businessPurchases account
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In Sino Trading Company Ltd.’s Book (Buyer’s Book)
Sino Trading Company Ltd.
Balance Sheet as at 1 January 1998 (after acquisition)Fixed AssetsGoodwill 13,000Land and Buildings 300,000Furniture and Fittings 70,000Machinery (260,000 + 180,000) 440,000Motor Vehicles (130,000 + 70,000) 200,000
1,023,000Current AssetsStock (84,000 + 40,000) 124,000Debtors (98,000 + 50,000) 148,000Cash (420,000 – 350,000) 70,000
342,000Less: Current Liabilities
Creditors (42,000 + 3,000) 45,000
Working Capital 297,000
1,320,000Share Capital 1,000,000Profit and Loss 320,000
1,320,000
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Example 2
Settlement by sharesThe facts are the same as those in Example 1, except that the purchase consideration was settled by issuing share capital of $350000 instead of paying cash
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In Sino Trading Company Ltd’s Book (Buyer’s Book)
Sino Trading Company Ltd.
Balance Sheet as at 1 January 1998 (after acquisition)Fixed AssetsGoodwill 13,000Land and Buildings 300,000Furniture and Fittings 70,000Machinery (260,000 + 180,000) 440,000Motor Vehicles (130,000 + 70,000) 200,000
1,023,000Current Assets
Stock (84,000 + 40,000) 124,000Debtors (98,000 + 50,000) 148,000Cash 420,000
692,000Less: Current Liabilities
Creditors (42,000 + 3,000) 45,000
Working Capital 647,0001,670,000
Share Capital (1,000,000 + 350,000) 1,350,000Profit and Loss 320,000
1,670,000
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Example 3
Taking over a limited company
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The following trial balances are extracted from Astin Ltd. And cathay Ltd. On 31 Dec 1997
Astin Ltd. Cathay Ltd.
Dr Cr Dr CrGoodwill $3000 -Premises 250000 80000Plant & Machinery 370000 46000Stock 120000 72000Debtors 65000 28000Bank 53000 14000Share capital-ord. shares of $1@ 560000 200000Share premium 1000 20000Profit and loss 130000 50005% debentures 100000 13000Creditors 70000 2000
861000 861000 240000 240000
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Astin Ltd. Took over Cathay Ltd. ( all the assets and liabilities ) on 31 Dec 1997.
Additional information:
1. The debentures in Cathay Ltd. were to be exchanged for a new issue of 5% debentures in Astin Ltd. Of the same nominal value.
2. The purchase consideration was discharged by the issue of 230000 $1 shares at a premium of 10%.
3. The assets were taken over at their book values except premises, stock and debtors, which were revalued at $10000, $70000 and 24000 respectively.
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RealizationPremises 80,000Plant and Machinery 46,000Stock 72,000Debtors 28,000Bank 14,000
Debentures 13,000Creditors 2,000
Astin Ltd. – purchase consideration (230,000 X 1.1) 253,000
In Cathy Ltd.’s Book (Seller)
Sundry Shareholders (profit on realization) (bal .fig.)28,000
268,000 268000
Sundry ShareholdersShares in Astin Ltd.-purchaseConsideration 253000
Share capital 200000 Profit and loss 5000
Share premium 20000
253000 253000
Realization-profit 28000
All shares capital and reserves should be closed to the sundry shareholders’ account
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Business purchasePremises 100000Plant and Machinery 46,000Stock 70,000Debtors 24,000Bank 14,000
Debentures 13,000 Creditors 2,000Astin Ltd. – purchase consideration (230,000 X 1.1) 253,000
In Cathy Ltd.’s Book (Seller)
Goodwill (bal. Fig.) 14000
268,000 268000
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In Astin Ltd.’s Book (Buyer’s Book)
Astin Ltd.
Balance Sheet as at 1 January 1998 (after acquisition)
Fixed AssetsGoodwill (3,000 + 14,000) 17,000Premises (250,000 + 100,000) 350,000Plant and Machinery (370,000 + 46,000) 416,000
783,000Current Assets
Debtors (65,000 +24,000) 89,000Bank (53,000 + 14,000) 67,000
Less: Current Liabilities
Working Capital 274,000
Stock (120,000 + 70,000) 190,000
346,000
Creditors (70,000 + 2,000) 72,000
1,057,000Share CapitalShare Capital (560,000 + 230,000) 790,000Share Premium (1,000 + 23,000) 24,000Profit and Loss 130,000
944,000Long-term Liabilities5% Debentures (100,000 + 13,000) 113,000
1,057,000
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Share Exchanges
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Share exchange
A limited company may take over another limited company by exchanging shares with the shareholders of the selling company.
The selling company will not be liquidated. It becomes the subsidiary of the purchasing company.
No entry is necessary in the books of the selling company,as it is only a change in the identity of the shareholders.
The shareholders of the selling company now become shareholders of the purchasing company
The purchasing company now becomes a holding company, In the books of the holding company, the subsidiary is regarded as an investment,
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Share exchange
Limited company Holding company
Shares
Shares
Subsidiary company
No entry in accounts
Issue of shares or debentures toSubsidiary company’s shareholders
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Share Exchange
Accounting Entries
Dr. Investment With the total cost of investmentCr. Share Capital With the par value of the issue of exchangeCr. Share Premium With the premium on the new issue
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Example 4
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The following balance sheets reflect the situation of Joyce Ltd and Anna Ltd. On 31 Dec 1997
Joyce Ltd. Anna Ltd.
Goodwill - $20000Land & building 1300000 1000000Plant & machinery 750000 450000Office equipment 80000 50000Stock 150000 97000Debtors 180000 110000Bank 65000 34000
2525000 1761000
Share capital- ord. Shares of $1@ 2000000 1000000Profit and loss account 400000 600000General reserve 50000 60000Creditors 75000 101000
2525000 1761000
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Joyce Ltd. took over Anna Ltd. By exchanging with the shareholders of Anna Ltd. Three shares of Joyce Ltd. Were exchanged at a premium of 20% for every two shares of Anna Ltd.
There is no accounting entry required in the books of Anna Ltd. as there is no liquidation of Anna Ltd. The only changes is that the shareholders of Anna Ltd. Become shareholders of Joyce Ltd.
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In Joyce Ltd.’s Book (Buyer’s Book)
Joyce Ltd.
Balance Sheet as at 1 January 1998 (after acquisition)
Fixed Assets Land and Premises 1300,000
2,130,000 Investment in Anna Ltd., at cost 1,800,000Current Assets
Stock 150,000Debtors 180,000Bank 65,000
395,000Less: Current Liabilities
Creditors 75,000Working Capital 320,000
4,250,000
Plant and Machinery 750,000Office Equipment 80,000
Share CapitalOrdinary Shares of $1 each (2000000+150000) 3,500,000
ReservesShare Premium [(1000000*3/2)*20%] 300,000General Reserve 50,000Profit and Loss Account 400,000
4250000
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Pre-incorporation Profit
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Pre-incorporation profit
Limited Co. take over other businesses. It takes p period of time before they can be incorporated.
A company cannot earn profits before it legally comes into existence through incorporation.
The profits generated after the takeover and before the incorporation are knows as pre-incorporation profits
Pre-incorporation profits are capital in nature. They must be transferred to a capital reserve account which is not available for dividend distribution.
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Pre-incorporation Profits
Accounting entries
Dr. Profit and Loss With the pre-incorporation profits earnedCr. Capital Reserve/Goodwill
Dr. Goodwill With the pre-incorporation lossCr. Profit and Loss
After incorporation, the company legally comes into existence. The profits generated after incorporation are known post-incorporation profits
The profits which can be transferred to the profit and loss appropriation account and is also available for the distribution of dividends.
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Allocation of profits between different parties
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Allocation of Profits between Different Parties
Case 1
A partnership was taken over by a limited company on 1 April. The company was incorporated on 1 June.
1/1
Date of takeover
1/4 1/6 31/12
Apportionment of profits:1/1 to 31/3 Partnership1/4 to 31/5 Pre-incorporation Profits1/6 to 31/12 Limited company(Post-incorporation profits)
Date of incorporation Financial year end
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Allocation of Profits between Different Parties
Case 2
A partnership was taken over by a limited company on 1 January. The company was incorporated on 1 April.
1/1 1/4 31/12
Apportionment of profits:1/1 to 31/3 Pre-incorporation Profits1/4 to 31/12 Limited company (Post-incorporation profits)
Date of takeover Date of incorporation Financial year end
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Allocation of Profits between Different Parties
Case 3
A partnership was taken over by a limited company on 1 April. The company was incorporated on the same date.
1/1 1/4 31/12
Apportionment of profits:1/1 to 31/3 Partnership1/4 to 31/12 Limited company (Post-incorporation profits)
Date of takeover of incorporation Financial year end
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Apportionment of revenues and expenses Theoretically, a separate set of records should be
dept for each period. However, a business may not have stock-take or may
not close the accounts when there is a change in ownership of the business
Therefore the income and expenditures must be apportioned over different periods in order to compute the pre-incorporation profits and the post-incorporation profits
The income and expenditures of the business should each be apportioned on a different basis
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Basis of Apportionment Examples
Sales Variable expenses and Revenues- They would increase proportionally to the increase in turnover- e.g. gross profit, selling and distribution expenses, carriage outwards, cost of goods sold, bad debts, discounts allowed, etc.
Time Fixed expenses and revenues- They would increase proportionally to time- e.g. rent and rates, interest, administrative exp., office salaries, depreciation, etc.
Actual - There is no need to apportion these expenses and revenues as they are incurred in a particular period.
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Apportionment of Revenues and Expenses
Basis of Apportionment Examples
Actual - Partnership e.g. Interest on drawings, interest on capital, partners’ salaries, etc.- Pre-incorporation period e.g. interest on purchase consideration- Post-incorporation period e.g. preliminary expenses, interest on purchase consideration, debenture interest, directors’ remuneration, etc.
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Example 5
Refer to textbook P.191-192
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Example 5
SalesCost of SalesGross ProfitLess: ExpensesRentSales Comm.Preliminary Exp.DebentureInt. on PurchaseConsiderationDirectors’ FeesDisc. AllowedDepreciationOffice SalariesNet Profit
Apportionmentbasis
Turnover (3:8:4)Turnover (3:8:4)
Time (3:6:3)Turnover (3:8:4)ActualActual
Time (6:1)ActualTurnover (3:8:4)Time (3:6:3)Time (3:6:3)
Partnership(Jan to Mar.)
360,00090,000
270,000
30,0008,400
5,40012,00024,000
190,200
Pre-incrop.(Apr. to Sept)
960,000240,000720,000
60,00022,400
30,000
14,40024,00048,000
521,200
Post-incorp.(Oct. to Dec.)
480,000120,000360,000
30,00011,20010,00015,000
5,00018,0007,20012,00024,000
227,600