Accounting Treatment for Assets, Liabilities, and Equity in Business Combination

This memorandum addresses the accounting issues related to the acquisition of Cargo Limited by Power Limited, specifically regarding the adjustment of assets and liabilities at fair value and the existence of equity accounts. The Australian accounting standard board's recognition principles and valuation methods are explained to provide clarity on these issues. The memorandum also discusses the revaluation of assets in equity accounts and the recognition of liabilities. The conclusion highlights that equity accounts can exist for a definite period after a business combination. Overall, this memorandum provides a comprehensive understanding of the accounting treatment for assets, liabilities, and equity in business combinations.

Running head: FINANCIAL ACCOUNTING AND REPORTING 2
Financial accounting and reporting 2
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FINANCIAL ACCOUNTING AND REPORTING 2
MEMORANDUM
To: Daniel Ford
Director power limited
510 William Street
Melbourne, VIC 3000
From: Julia Edwards ([e-mail])
Date: 16th May, 2019
Subject:
Dear Daniel,
The memorandum has been prepared in response to the accounting issues raised by
you regarding the acquisition of Cargo Limited by Power Limited sent through e mail. The
intention of writing this memorandum is to address the accounting issues that have been
raised regarding the equity account and adjustments of assets and liabilities regarding the fair
value. In addition to this, the existence of the equity account recognized by cargo Limited has
also been evaluated. With regard to the issues that are raised by you, I would be explaining
the accounting treatment concerning the assets, liabilities and equity account that is consistent
with the Australian accounting standard board that would assist you and the board in
understanding the issues.
In the first issue, you raised the concern about the adjustment of assets and liabilities
at the fair value in the consolidated worksheet or in the accounts of Cargo Limited. The

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acquirer recognizes the assets and liabilities acquired if the acquisition of the assets does not
constitute the business provided the assets and liabilities meet the recognition criteria at the
date of acquisition in accordance with the requirement of Australian accounting standard. The
paragraph 10 of the AASB 3 lays down the recognition principle that all the identifiable
assets at the date of acquisition should be recognized by the acquirer in the account of acquire
separately from goodwill (Aasb.gov.au 2019). The assets and liabilities can be qualified for
getting recognized, such liabilities and assets must form a part of the acquiree and acquirer.
In addition to this, the acquirer shall measure the liabilities and assets by making the
assumption that the assets have been acquired at the fair value at the date of acquisition. The
valuation of liabilities and assets should be performed by the acquirer if the value of existing
contingent liabilities is more than the book value of assets and liabilities.
The working for consolidation is prepared only in the event of consolidation and the
time whenever it is required to prepare the consolidation access. Moreover, the valuation of
business combination would be done by making adjustments to the fair value. The acquisition
analysis would help in determining the differences between the values of liabilities and
assets. Therefore, in the worksheet of consolidation account, the valuation entries in relation
to the business combination should be done (Gláserová 2016).
The another accounting issue that was raised by you was regarding the revaluation of
assets in the equity accounts and whether such equity accounts can be used regarding the
recognition of liabilities. The equity account that should be use dafter the consolidation for
revaluing the assets is account of the business combination revaluation reserve. Regarding the
assets revaluation, the equity account recognizes any upward change in the capital assets
valuation. The classification of the liabilities as equity is considered appropriate only when
such liabilities fail to meet the definition of the financial liability (Hughes et al. 2019). In
relation to recognition of liabilities, the amount is recognized as equity when the fair value of

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such liabilities are deducted from the instrument fair value as a whole and the resulting
residual component is recognized in the equity account. Furthermore, the method of
allocation of liability is consistent with the definition of equity.
Therefore, in the event of assets revaluation that results in deficit or surplus after the
consolidation is recognized in the consolidated worksheet. In the event of upward valuation
of the assets that result in occurrence of capital gain. Instead of recording the amount in the
income statement of consolidated entity, the amount should be credited in the equity accounts
of the shareholders by the name of revaluation surplus. The equity account identifies any
upward change in the valuation of the capital assets in the event of the surplus generation in
account of the revaluation after the acquisition. On other hand, when there is no disposition
of the revalued assets on subsequent basis, then the amount that has remained after the
generation of revaluation surplus, then such amount is credited to the retained earning
account of the acquired entity. Furthermore, there should be direct transferring of the
revaluation surplus by the acquirer to the retained earnings. Such treatment is done in the
event when the revaluation surplus generated after the revaluation of assets is identified in the
statement of comprehensive income and the same in the event if the revaluation of the surplus
is done in the comprehensive income statement (Su et al. 2015).
On other hand, when there is downward revaluation of the assets, the amount is
recorded in the shareholder equity under the comprehensive income as revaluation surplus.
Thus, there is an increase in the value of equity of shareholders due to assets upward
valuation and decrease in the net income resulting from higher amount of depreciation
incurred (Rickling et al. 2015). Therefore, when there is excess value in revaluation the assets
for recognition, then different equity account should be used in relation to the recognition of
liabilities.

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The third issue raised by you was regarding the existence of equity account and
whether the equity account can remain in existence indefinitely. This issue has been
presented because the equity accounts after the acquisition do not seem to be related to equity
accounts that are recognized by cargo limited itself. The issue of the existence of the equity
accounts can be addressed by referring to the accounting standards. After the acquisition of
cargo Limited by the Power Limited Company, the equity account is not related to the
account that is recognized by the acquirer. The financial liability or equity for meeting the
definition of the financial instrument in accordance with the paragraph 11 of AASB 132, the
acquirer is required to classify the obligation for considering the payment of contingent
(Aasb.gov.au 2019).
The acquirer shall perform the remeasurement of the equity that are being held
previously at the fair value date of acquisition and consequently, the loss and gain realized
should be recognized in the comprehensive income statement when it is considered
appropriate. It is the acquirer who usually issues the equity interest in the event of business
combination that is primarily affected by exchanging the equity interest. However, in the
event of reverse acquisition, acquiree is considered as the issuer of equity. Therefore, it can
be inferred that the new entity that ahs been formed after the business combination cannot be
necessarily the acquirer. In addition to this, if the business combination is affected by the
formation of new entity, then in such scenario, the identification of the business should be
done in accordance with the AASB 3 Business combination. Hence, from the analysis that is
discussed above, it can be inferred that the issue of equity can be done both by the acquirer
and acquiree that depends upon the different circumstances (Kulikova et al. 2016).
Furthermore, there might be the situation when the companies would opt for elimination of
the business combination and opt for operating as single and separate entity. Hence, it can be
inferred that the equity account cannot exist on an indefinite basis. The Power limited

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company would recognize the equity account in the event of acquisition of the Cargo limited
and the equity account of the company that has acquired by the acquirer would remain in
existence for a definite period.
All the discussions made by me have been done in accordance with the requirement of
the Australia accounting standard. I hope and feel that all the answers addressed by me
against the queries raised would be of great assistance to you and the board members in
understanding the accounting treatment related to the equity accounts and revaluation of
assets.
Regards,
Graduate accountant
Power Company limited

FINANCIAL ACCOUNTING AND REPORTING 2
Bibliography:
Aasb.gov.au. (2019). [online] Available at:
https://www.aasb.gov.au/admin/file/content105/c9/AASB9_12-14.pdf [Accessed 14 May
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Aasb.gov.au. (2019). [online] Available at:
https://www.aasb.gov.au/admin/file/content105/c9/AASB3_08-15.pdf [Accessed 14 May
2019].
Gláserová, J., 2016. Impacts of Newly Acquired Items Within Business Combinations on the
Items of the Financial Statements. Acta Universitatis Agriculturae et Silviculturae
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Rickling, M.F., Brenner, V.C. and Crowe, M., 2015. Using Mergers and Acquisitions and
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