Inter-company Holdings, Dividends and Other Adjustments in AS 14 Amalgamation

Understand Inter-company Holdings, Dividends and Other Adjustments

Key rules to remember

Mutual owings

Combined debtors = Debtors of both − Amount owed between them; Combined creditors = Creditors of both − Same amount

Apply the same cancellation to bills receivable and bills payable. Check that both sides are reduced by the same figure.

Unrealised profit on stock sold at a mark-up on cost

Unrealised profit = Stock still held × Mark-up % ÷ (100 + Mark-up %)

Use this when the question says cost plus a percentage. Reduce stock and reduce reserves by this amount.

Unrealised profit on stock sold at a margin on sales

Unrealised profit = Stock still held × Profit % on sales ÷ 100

Use this when the profit is a percentage of selling price. Read the wording carefully. Reduce stock and reduce reserves by this amount.

Shares to be issued to outsiders

Outsiders' shares = Total transferor shares − Shares held by transferee; Shares of assenting outside holders = Outsiders' shares − Dissenting shares (if paid in cash)

Apply the exchange ratio only to the shares of assenting outside holders.

Purchase consideration with dissenters

Purchase consideration = Value of shares issued to assenting holders + Cash paid to dissenters + Any other cash

Include only what is paid to the transferor's shareholders. Do not include liquidation expenses the transferee bears for the transferor.

Cost of acquisition when transferee holds shares in transferor (purchase method)

Goodwill or capital reserve = (Purchase consideration + Cost of shares already held) − Net assets taken over

The cost of shares already held is not part of the purchase consideration. You add it only for this computation. If the figure is positive it is goodwill. If negative it is capital reserve. Liquidation expenses borne by the transferee, if the question so directs, are adjusted against capital reserve or added to goodwill, and are not part of this consideration.

Pooling of interests: difference adjusted to reserves

Adjustment = Share capital of transferor − (Share capital issued by transferee + cash, if any, paid to shareholders); a positive result increases reserves, a negative result reduces reserves

If the transferor's share capital is more than the capital issued plus cash, the result is positive and the difference is credited to reserves. If it is less, the result is negative and the difference is debited to reserves. All reserves of the transferor are carried over, then adjusted by this figure. Liquidation expenses borne by the transferee are usually adjusted against reserves or the Statement of Profit and Loss, as the question directs.

How to solve Inter-company Holdings, Dividends and Other Adjustments questions

1. 1Read the method of accounting stated in the question: pooling of interests or purchase. Note the exchange ratio, the cash payments and any special instruction on expenses.
2. 2List the inter-company items. These are mutual owings, goods sold between the companies, shares held by one company in the other, and any dividends payable.
3. 3Work out the purchase consideration. Exclude shares the transferee already holds. Pay dissenters in cash. Show the number of shares and their value separately.
4. 4Prepare the net assets of the transferor. Remove mutual owings from both sides. Take assets and liabilities at book value (pooling) or at agreed values (purchase).
5. 5Deal with unrealised profit. Reduce stock and reduce the reserve or profit balance that carries the profit.
6. 6Compute the difference. In pooling, adjust reserves. In purchase, find goodwill or capital reserve, and account for liquidation expenses as the question says.
7. 7Pass the entries in the transferee's books if asked, then add the two balance sheets line by line.
8. 8Check that total assets equal total equity and liabilities. If not, recheck mutual owings and the unrealised profit.

Quickest way: Column method for the transferee's balance sheet

Common mistakes in Inter-company Holdings, Dividends and Other Adjustments

• Cancelling mutual owings on only one side of the balance sheet.

  Students remove the debtor but forget the matching creditor, or the reverse.

  Fix: Always reduce both debtors and creditors by the same amount. Do the same for bills receivable and bills payable. A balance sheet that does not balance usually has this error.

• Taking the whole unrealised profit from stock as the profit on the selling price.

  The question says cost plus 20%, but students compute 20% of the stock value.

  Fix: For a mark-up on cost, profit = stock × 20 ÷ 120. For profit on selling price, profit = stock × 20 ÷ 100.

• Issuing shares to the transferee for shares it already holds in the transferor.

  Students apply the exchange ratio to all transferor shares.

  Fix: Subtract the transferee's own holding first. Cancel the investment in the transferor in the transferee's books, and in the purchase method treat it as part of the cost of acquisition.

• Leaving cash paid to dissenting shareholders out of the purchase consideration.

  Students count only shares issued.

  Fix: If the transferee pays the dissenters, include that cash in the consideration. Work out share consideration only for the assenting holders.

• Adding liquidation expenses to the purchase consideration.

  Students see an amount paid for the transferor and assume it is consideration.

  Fix: Consideration is what shareholders receive. Expenses borne by the transferee are treated separately, as the question directs, for example against goodwill or capital reserve in the purchase method.

• Forgetting to adjust reserves for the unrealised profit.

  Students reduce stock but do not make the matching entry.

  Fix: Whenever you write down stock for unrealised profit, reduce reserves or the Statement of Profit and Loss by the same amount.

Worked examples