Introduction
Business combination is the process under which two or more business organization or their net assets are brought under common control in a single business entity. Generally, companies doing similar types of business or involved in similar line of activities may go for business combination to get the economies of large scale production and to minimize the possibility of cut-throat competition. Business combinations result the growth. Other terms applied to business combinations are merger and acquisition. A "merger" refers to a situation where two or more than two companies of similar nature combine willingly while an "acquisition" or take over' refers to the situation where a bigger company take over a smaller company. Business combination can take place either through amalgamation or through absorption.
Form of business combination
Amalgamation, absorption, reconstruction and holding company are the forms of business combination.
Amalgamation
When two or more companies carrying or similar business go into liquidation and a new company is formed to take over their business, it is called amalgamation. In other words, amalgamation refers to the formation of a new company by taking over the business of two or more existing companies doing similar types of business. In amalgamation, two or more companies are liquidated and a new company is formed to take over business of liquidating companies. The companies which go into liquidation are called or amalgamating or transferal companies where as the new company which is formed to take over the business of liquidating companies is called purchasing or amalgamated or transferred company. The main aim of amalgamation is to minimize the possibility of cut- throat competition and to advantages of large scale production.
Features of Amalgamation
Following are the main features of amalgamation:
1. Two or more existing companies are liquidated.
2. A new company is formed to take over the business of liquidating companies.
3. The nature of business of existing companies is similar.
4. Liquidating companies are called vendor companies and the new companies is called purchasing company.
5. Generally, purchase consideration is discharged by issued of equity shares of purchasing company.
Absorption
Absorption is the process under which an existing large company purchases the business of another small company or companies doing similar business. In other words, when an existing company takes over the business of one or more existing companies carrying on similar business, it is called absorption. The company whose business is acquired is liquidating. But, no new company is formed. The company which take over the business is called absorbing or purchasing company and the company, the business of which is taken over is called absorbed or vendor company. The accounting record o absorption is similar to that of amalgamation.
Features of absorption
Following are the main features of absorption:
1. One or more companies are liquidated.
2. No new company is formed.
3. The nature of business of both companies is similar.
4. Generally, larger company purchases the business of similar company.
5. The company which takes over the business of another company is called purchasing company and the company whose business is takes over is called Vendor Company.
Difference between amalgamation and absorption
Following are the difference between amalgamation and absorption:
Reconstruction
When a company is suffering loss for past several years and suffering from financial differences, it may go for reconstruction. In other words, when a company's balance sheet exhibits huge accumulated losses, functions and intangible assets or is financial difficulties or is over capitalized and them the process of reconstruction is restored. Reconstruction may be internal and external.
1. External reconstruction
When a company is suffering losses for the past several years and facing financial crisis, the company can sell its business to another newly formed company. Actually, the new company is formed to take over the assets and liabilities of the old company. This recess is called external reconstructions. In other words, external reconstruction refers to the sale of the business of existing company to another company formed. The liquidated company is called 'vendor Company' and the new company is called 'purchasing company'. The accounting procedure of external reconstruction is similar to that of amalgamation and absorption. For example, if an existing company (welcome co.ltd.) goes in to liquidation to reconstruct externally and a new company (new company co. ltd) to take over the business of exiting company, it is called external reconstruction.
2. Internal Reconstruction
Internal reconstruction refers to the internal re-organization of the financial structure of a company. It is also termed as re-organization which permits the existing company to be continued. Generally, share capital is reduced to write off the past accumulated losses of the company. The accounting procedure if internal reconstruction is distinct from teat of the amalgamation, absorption and external reconstruction.
Holding company
The creation of the relationship of holding and subsidiary companies is a form of combination. A company may acquire either the whole or the majority of the shares of another company so as to have a controlling interest in such a company or companies. The controlling company is known as the holding company and the so controlled company or the company whose shares have been acquired is known as subsidiary company and both together are known as the Group of Companies. Holding companies are able to nominate the majority of the directors of subsidiary company. The company gets such right which it purchases more than half share of another company. So, the holding company is one which control on or more other companies either by means of holding more the half in that company or companies or by having power to appoint the whole or majority of the directors of those companies. A companies controlled by holding company is known as a subsidiary company.
Advantages of Business Combination
Amalgamation or absorption result the merging of two or more companies into one and form a business combination the main objective of business combination is to eliminate cut throat completion and secure the advantage of large scale production. Following are the advantages of business combination i.e. amalgamation and absorption:
1. Competition between and among the companies is eliminated.
2. Amount of capital can be increased by companies companies.
3. Establishment and management cost can be secured.
4. Benefits of large scale productions can be secured.
5. Operating cost can be reduced by avoiding duplication.
6. Research and development facilities are increased.
7. Monopoly in the market can be achieved.
8. Bulk purchase of materials t reduced price is possible.
9. Stability in the price of goods is maintained.
Disadvantages of Business Combination
Following are the major disadvantages of any form of business combination:
1. It brings monopoly in the market, which may be harmful for the society.
2. The identity of the company finishes.
3. Goodwill of the old company becomes difficult.
4. Management of the company becomes difficult.
5. Business combination may result in over-capitalization.
Accounting procedures of Amalgamation, Absorption and external Reconstruction
In amalgamation, absorption and external reconstruction, Vendor Company is liquidated by transferring its assets and liabilities as per agreement with the purchasing company. In exchanges, it wills receive purchase consideration from the purchasing company. Thus, Vendor Company and purchasing company are the two parties involved in the process of amalgamation, absorption & external reconstruction. The accounting procedures involve the following:
a. Calculating of purchase consideration.
b. Closing entries in the book of Vendor Company.
c. Opening entries in the books of purchasing company.
Purchase consideration (purchase price)
The price paid by Purchase Company to Vendor Company for taking over the business is termed as purchase price or consideration. It is determined by the mutual between Vendor Company and purchasing company. The calculation of purchase consideration is one of the important tasks in the process of amalgamation, absorption and external reconstruction. Generally, purchase price is discharged by issuing fully paid shares of purchasing company. It is computer by the following methods.
1. Lump sum method
When a fixed amount is paid by purchasing company on behalf of purchase of business to Vendor Company, it is known as lump sum payment of purchase consideration. No calculation is required to calculate purchase consideration under this method. For example, Nepal Company limited purchase the business of International institute and agrees to pay Rs 9, 00,000 here, the amount of purchase consideration is equal to Rs 9, 00,000.
2. Net payment method
Under this method, purchase consideration is computer by adding the various modes of payment made by Purchasing Company in the form of cash, debentures, preferences shares and equity shares. In other words, the purchase consideration is the sum of all payments made by purchasing company in the form of cash, debentures and shares. Under this method, purchase consideration is calculated as under:
3. Net assets method/ Net worth method
Here, net assets mean the difference between assets taken over and liabilities taken over. Under this method, the purchase consideration is determined by adding the agreed value of assets taken over and there after deducting the agreed value of liabilities taken over the purchasing company. Net assets method is used to determine the amount of purchasing consideration when the full details of purchase consideration as per net payment method are not given. Under this method, amount of purchase consideration is determined as under:
Point to be considered in respect of assets of Vendor Company
• Fictions assets like preliminary expenses, discount on shares, underwriting commission, discount or cost on issue of debentures, debit balance of profit and loss account etc should not be included in assets taken over,
• Intangible assets such as patent, trademark, copyright etc. should be included in assets taken over.
• The word "all assets" include cash in and balance at bank also.
• If any asset is not taken over by purchasing company that should not be considered for purchase consideration.
• The word "business" will always mean assets and external liabilities.
• While computing purchase consideration, current market price of assets should be considered.
Points to be considered in respect of liabilities of Vendor Company
• Liabilities taken over means only external liabilities.
• Trade liabilities include creditors, bills payable and account payable only.
• Liabilities taken over do not include accumulated profit and reserve.
• Any fund or reserve created out of salary of staff is trade red as external liabilities.
4. Intrinsic value of shares method
Under, this method, purchase consideration is calculated on the basis of intrinsic value of share of the two companies involved. Intrinsic value of share is calculated by dividing the net assets available for equity shareholders by existing number of equity shares. This value determines the ratio of exchange of the shares between the purchasing company and Vendor Company.
Intrinsic value per share= net assets/ no. of equity shares
Closing entries in the books of Vendor Company
The accounting books and balance sheet of Vendor Company are required to be closed after getting the process of liquidation. A liquidator is appointed on the liquidation of the company and he represents the vendor company with purchasing company. When the company goes for liquidation a realization account. Is operated for settlement of accounts. For following entries and passed to close the books of vendor company.
1. For liabilities taken over by purchasing company
2. For liabilities taken over by purchasing company.
3. For sale of assets not taken over by purchasing company.
4. For purchase consideration due from purchasing company.
5. For receipt of purchase consideration
6. For payment of external liabilities not taken over by purchasing company
7. For amount due to debentures holder
8. For amount due to debentures holders discharged
9. For amount due to preference shareholders
10. For amount due to preference shareholders discharged
11. For transfer of share capital and accumulated profit and reserve to equity shareholder
12. For transfer factious fictitious assets to equity shareholder
13. For transfer of gain on realization to equity shareholders'
14. For amount due to equity shareholders discharged
Opening entries in the books of purchasing company
The purchasing company records the transactions by passing opening journal entries and preparing opening balance sheet in the case of amalgamation and absorption. The following are the accounting records maintain in the books of purchasing company.
1. When business of vendor company purchased.
2. When assets and liabilities are purchase or taken over at an agreed market value.
3. When purchase price is discharged or paid off in cash or by issuing shares and debentures at a par, at a premium or at a discount.
4. When liquidation expenses are paid by purchasing company
5. When goodwill written off (if there is shared premium)
6. When there is formation expense or preliminary expense.
7. When fresh shares are issued to the public
Internal reconstruction
It is process of making financial strength sound internally by charging him financial elements. Under this case, the share capital and liabilities are required to be altered in a planned way. Internal reconstruction is also termed as re-organization which permits the exiting company to be continued.
Method of internal reconstruction
Internal reconstruction is the process of re-arranging he share capital and liabilities. It includes the following two methods:
1. Reduction of share capital
2. Alternation or re-arrangement of share capital
1. Reduction of share capital
Capital reduction is the way of decreasing difference classes of share capital, as a result of large accumulated losses or an excess of funds without profitable use. Ordinary, reduction in capital is made to write of heavy accumulated loss, fictitious assets and intangible assets. Similarly, if the company has been suffering losses for the last many years and is required to bring profit earning position in future by eliminating loss balance, the capital is reduced.
Accounting records for reduction of share capital
1. When paid-up share capital is reduced with reducing the liabilities on shares
2. When there is any increase or profit on revaluation (appreciation) of fixed assets.
3. When any liability is reduced.
4. When balance of any reserve or fund transaction to capital reduction account.
5. When functions assets, intangible assets and other assets are written off out of the balance of capital reduction.
6. When reconstruction expenses is paid out of the balance of capital reduction.
7. When balance of capital reduction is transferred to capital reserve.
2. Re-arrangement of share capital
Re-arrangement of share capital of a company is another way of internal re-construction. This can be applied by many methods. The process of re-arrangement of share capital is known as alteration of share capital also. A company may, if so authorized by its articles, go for the following scheme for alternative in share capital:
a. Increasing share capital be fresh issue of shares
b. Consolidating or dividing share capital into shares of large amount than its existing shares or smaller amount.
c. Converting fully paid up share capital into share stock.
d. Subdividing its shares into share of smaller amount f par value by increasing number of shares.
Accounting records for alternation of share capital
a. When old share capital is sub-divided into share
b. When old share capital is consolidated into shares of large par value.
c. When fresh are issued for cash.
d. When shares of fully paid up are converted into share stock.
Define the term amalgamation with its features.
When two or more companies carrying on similar business go into liquidation and a new company is formed to take over their business. It is called amalgamation. The companies which go into liquidation are called vendor company or amalgamating or transfer companies where as the new company which is formed to take over the business of liquidation companies is called purchasing or amalgamate or transference company. The main aim of amalgamation is to minimize the possibility of cut threat competition and to secure the advantage of large scale production
Feature of amalgamation
Following are the main features of amalgamation:
1. Two or more existing companies are liquidated.
2. A new company is formed to take over the business of liquidating companies.
3. The nature of business of existing companies is similar.
4. Liquidating companies are called vendor companies and the new companies is called purchasing company.
5. Generally, purchase consideration is discharged by issued of equity shares of purchasing company.
Form of business combination
Amalgamation, absorption, reconstruction and holding company are the forms of business combination.
Amalgamation
When two or more companies carrying or similar business go into liquidation and a new company is formed to take over their business, it is called amalgamation. In other words, amalgamation refers to the formation of a new company by taking over the business of two or more existing companies doing similar types of business. In amalgamation, two or more companies are liquidated and a new company is formed to take over business of liquidating companies. The companies which go into liquidation are called or amalgamating or transferal companies where as the new company which is formed to take over the business of liquidating companies is called purchasing or amalgamated or transferred company. The main aim of amalgamation is to minimize the possibility of cut- throat competition and to advantages of large scale production.
Features of Amalgamation
Following are the main features of amalgamation:
1. Two or more existing companies are liquidated.
2. A new company is formed to take over the business of liquidating companies.
3. The nature of business of existing companies is similar.
4. Liquidating companies are called vendor companies and the new companies is called purchasing company.
5. Generally, purchase consideration is discharged by issued of equity shares of purchasing company.
Absorption
Absorption is the process under which an existing large company purchases the business of another small company or companies doing similar business. In other words, when an existing company takes over the business of one or more existing companies carrying on similar business, it is called absorption. The company whose business is acquired is liquidating. But, no new company is formed. The company which take over the business is called absorbing or purchasing company and the company, the business of which is taken over is called absorbed or vendor company. The accounting record o absorption is similar to that of amalgamation.
Features of absorption
Following are the main features of absorption:
1. One or more companies are liquidated.
2. No new company is formed.
3. The nature of business of both companies is similar.
4. Generally, larger company purchases the business of similar company.
5. The company which takes over the business of another company is called purchasing company and the company whose business is takes over is called Vendor Company.
Difference between amalgamation and absorption
Following are the difference between amalgamation and absorption:
When a company is suffering loss for past several years and suffering from financial differences, it may go for reconstruction. In other words, when a company's balance sheet exhibits huge accumulated losses, functions and intangible assets or is financial difficulties or is over capitalized and them the process of reconstruction is restored. Reconstruction may be internal and external.
1. External reconstruction
When a company is suffering losses for the past several years and facing financial crisis, the company can sell its business to another newly formed company. Actually, the new company is formed to take over the assets and liabilities of the old company. This recess is called external reconstructions. In other words, external reconstruction refers to the sale of the business of existing company to another company formed. The liquidated company is called 'vendor Company' and the new company is called 'purchasing company'. The accounting procedure of external reconstruction is similar to that of amalgamation and absorption. For example, if an existing company (welcome co.ltd.) goes in to liquidation to reconstruct externally and a new company (new company co. ltd) to take over the business of exiting company, it is called external reconstruction.
2. Internal Reconstruction
Internal reconstruction refers to the internal re-organization of the financial structure of a company. It is also termed as re-organization which permits the existing company to be continued. Generally, share capital is reduced to write off the past accumulated losses of the company. The accounting procedure if internal reconstruction is distinct from teat of the amalgamation, absorption and external reconstruction.
Holding company
The creation of the relationship of holding and subsidiary companies is a form of combination. A company may acquire either the whole or the majority of the shares of another company so as to have a controlling interest in such a company or companies. The controlling company is known as the holding company and the so controlled company or the company whose shares have been acquired is known as subsidiary company and both together are known as the Group of Companies. Holding companies are able to nominate the majority of the directors of subsidiary company. The company gets such right which it purchases more than half share of another company. So, the holding company is one which control on or more other companies either by means of holding more the half in that company or companies or by having power to appoint the whole or majority of the directors of those companies. A companies controlled by holding company is known as a subsidiary company.
Advantages of Business Combination
Amalgamation or absorption result the merging of two or more companies into one and form a business combination the main objective of business combination is to eliminate cut throat completion and secure the advantage of large scale production. Following are the advantages of business combination i.e. amalgamation and absorption:
1. Competition between and among the companies is eliminated.
2. Amount of capital can be increased by companies companies.
3. Establishment and management cost can be secured.
4. Benefits of large scale productions can be secured.
5. Operating cost can be reduced by avoiding duplication.
6. Research and development facilities are increased.
7. Monopoly in the market can be achieved.
8. Bulk purchase of materials t reduced price is possible.
9. Stability in the price of goods is maintained.
Disadvantages of Business Combination
Following are the major disadvantages of any form of business combination:
1. It brings monopoly in the market, which may be harmful for the society.
2. The identity of the company finishes.
3. Goodwill of the old company becomes difficult.
4. Management of the company becomes difficult.
5. Business combination may result in over-capitalization.
Accounting procedures of Amalgamation, Absorption and external Reconstruction
In amalgamation, absorption and external reconstruction, Vendor Company is liquidated by transferring its assets and liabilities as per agreement with the purchasing company. In exchanges, it wills receive purchase consideration from the purchasing company. Thus, Vendor Company and purchasing company are the two parties involved in the process of amalgamation, absorption & external reconstruction. The accounting procedures involve the following:
a. Calculating of purchase consideration.
b. Closing entries in the book of Vendor Company.
c. Opening entries in the books of purchasing company.
Purchase consideration (purchase price)
The price paid by Purchase Company to Vendor Company for taking over the business is termed as purchase price or consideration. It is determined by the mutual between Vendor Company and purchasing company. The calculation of purchase consideration is one of the important tasks in the process of amalgamation, absorption and external reconstruction. Generally, purchase price is discharged by issuing fully paid shares of purchasing company. It is computer by the following methods.
1. Lump sum method
When a fixed amount is paid by purchasing company on behalf of purchase of business to Vendor Company, it is known as lump sum payment of purchase consideration. No calculation is required to calculate purchase consideration under this method. For example, Nepal Company limited purchase the business of International institute and agrees to pay Rs 9, 00,000 here, the amount of purchase consideration is equal to Rs 9, 00,000.
2. Net payment method
Under this method, purchase consideration is computer by adding the various modes of payment made by Purchasing Company in the form of cash, debentures, preferences shares and equity shares. In other words, the purchase consideration is the sum of all payments made by purchasing company in the form of cash, debentures and shares. Under this method, purchase consideration is calculated as under:
3. Net assets method/ Net worth method
Here, net assets mean the difference between assets taken over and liabilities taken over. Under this method, the purchase consideration is determined by adding the agreed value of assets taken over and there after deducting the agreed value of liabilities taken over the purchasing company. Net assets method is used to determine the amount of purchasing consideration when the full details of purchase consideration as per net payment method are not given. Under this method, amount of purchase consideration is determined as under:
Point to be considered in respect of assets of Vendor Company
• Fictions assets like preliminary expenses, discount on shares, underwriting commission, discount or cost on issue of debentures, debit balance of profit and loss account etc should not be included in assets taken over,
• Intangible assets such as patent, trademark, copyright etc. should be included in assets taken over.
• The word "all assets" include cash in and balance at bank also.
• If any asset is not taken over by purchasing company that should not be considered for purchase consideration.
• The word "business" will always mean assets and external liabilities.
• While computing purchase consideration, current market price of assets should be considered.
Points to be considered in respect of liabilities of Vendor Company
• Liabilities taken over means only external liabilities.
• Trade liabilities include creditors, bills payable and account payable only.
• Liabilities taken over do not include accumulated profit and reserve.
• Any fund or reserve created out of salary of staff is trade red as external liabilities.
4. Intrinsic value of shares method
Under, this method, purchase consideration is calculated on the basis of intrinsic value of share of the two companies involved. Intrinsic value of share is calculated by dividing the net assets available for equity shareholders by existing number of equity shares. This value determines the ratio of exchange of the shares between the purchasing company and Vendor Company.
Intrinsic value per share= net assets/ no. of equity shares
Closing entries in the books of Vendor Company
The accounting books and balance sheet of Vendor Company are required to be closed after getting the process of liquidation. A liquidator is appointed on the liquidation of the company and he represents the vendor company with purchasing company. When the company goes for liquidation a realization account. Is operated for settlement of accounts. For following entries and passed to close the books of vendor company.
1. For liabilities taken over by purchasing company
2. For liabilities taken over by purchasing company.
3. For sale of assets not taken over by purchasing company.
4. For purchase consideration due from purchasing company.
5. For receipt of purchase consideration
6. For payment of external liabilities not taken over by purchasing company
7. For amount due to debentures holder
8. For amount due to debentures holders discharged
9. For amount due to preference shareholders
10. For amount due to preference shareholders discharged
11. For transfer of share capital and accumulated profit and reserve to equity shareholder
12. For transfer factious fictitious assets to equity shareholder
13. For transfer of gain on realization to equity shareholders'
14. For amount due to equity shareholders discharged
Opening entries in the books of purchasing company
The purchasing company records the transactions by passing opening journal entries and preparing opening balance sheet in the case of amalgamation and absorption. The following are the accounting records maintain in the books of purchasing company.
1. When business of vendor company purchased.
2. When assets and liabilities are purchase or taken over at an agreed market value.
3. When purchase price is discharged or paid off in cash or by issuing shares and debentures at a par, at a premium or at a discount.
4. When liquidation expenses are paid by purchasing company
5. When goodwill written off (if there is shared premium)
6. When there is formation expense or preliminary expense.
7. When fresh shares are issued to the public
Internal reconstruction
It is process of making financial strength sound internally by charging him financial elements. Under this case, the share capital and liabilities are required to be altered in a planned way. Internal reconstruction is also termed as re-organization which permits the exiting company to be continued.
Method of internal reconstruction
Internal reconstruction is the process of re-arranging he share capital and liabilities. It includes the following two methods:
1. Reduction of share capital
2. Alternation or re-arrangement of share capital
1. Reduction of share capital
Capital reduction is the way of decreasing difference classes of share capital, as a result of large accumulated losses or an excess of funds without profitable use. Ordinary, reduction in capital is made to write of heavy accumulated loss, fictitious assets and intangible assets. Similarly, if the company has been suffering losses for the last many years and is required to bring profit earning position in future by eliminating loss balance, the capital is reduced.
Accounting records for reduction of share capital
1. When paid-up share capital is reduced with reducing the liabilities on shares
2. When there is any increase or profit on revaluation (appreciation) of fixed assets.
3. When any liability is reduced.
4. When balance of any reserve or fund transaction to capital reduction account.
5. When functions assets, intangible assets and other assets are written off out of the balance of capital reduction.
6. When reconstruction expenses is paid out of the balance of capital reduction.
7. When balance of capital reduction is transferred to capital reserve.
2. Re-arrangement of share capital
Re-arrangement of share capital of a company is another way of internal re-construction. This can be applied by many methods. The process of re-arrangement of share capital is known as alteration of share capital also. A company may, if so authorized by its articles, go for the following scheme for alternative in share capital:
a. Increasing share capital be fresh issue of shares
b. Consolidating or dividing share capital into shares of large amount than its existing shares or smaller amount.
c. Converting fully paid up share capital into share stock.
d. Subdividing its shares into share of smaller amount f par value by increasing number of shares.
Accounting records for alternation of share capital
a. When old share capital is sub-divided into share
b. When old share capital is consolidated into shares of large par value.
c. When fresh are issued for cash.
d. When shares of fully paid up are converted into share stock.
Define the term amalgamation with its features.
When two or more companies carrying on similar business go into liquidation and a new company is formed to take over their business. It is called amalgamation. The companies which go into liquidation are called vendor company or amalgamating or transfer companies where as the new company which is formed to take over the business of liquidation companies is called purchasing or amalgamate or transference company. The main aim of amalgamation is to minimize the possibility of cut threat competition and to secure the advantage of large scale production
Feature of amalgamation
Following are the main features of amalgamation:
1. Two or more existing companies are liquidated.
2. A new company is formed to take over the business of liquidating companies.
3. The nature of business of existing companies is similar.
4. Liquidating companies are called vendor companies and the new companies is called purchasing company.
5. Generally, purchase consideration is discharged by issued of equity shares of purchasing company.
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