Slide 20 Lets say you have one million contingent consideration that is paid in 5 years.

We have to do probability for the first column. The old one no probability. Where would you recognize for the old one? What are the possible amount? Either 1 million or 0. But the new one, you can recognize any number between 0 and 1 million. Continuous. Whats the rationale for the change in the standard? Is the new one more informative? The measurement will flow into fair value which will determine goodwill later on. If you dont capture this in a meaningful way there would be noises. It should not be 0 should be a number. FRS 103 is to capture the negotiation process, the economics of the transaction. How the pricing is done. So we want to simulate this negotiation price and capture the pricing decision. The FV of consideration transfer reflect the negotiation. The director wants to have probability. Just like when you buy computer you cannot decide what is the likelihood of it going broken. Probability must feature on this whole negotiation process. Slide 21 Fair Value incorporates present value and expected value. The expected value is the probability of the outcome. Slide 23 The old method would capitalized all these acquisition related cost. 103 previously was based on cost method. Whateever cost you need to incur is to capitalize. All the journey cost would be capitalized. FRS 103 the new one is the Fair Value model. We are trying to capture the future benefit indirectly. Slide 26 Whats the name of FRS 103 Business Combination? Suggest an economic entity focus looking at the group of company. All these principles appear in 103. BUT can we then apply these to the legal entity? Now there is a gap between that two. FRS 103 really deals with groups of company but what about legal entity reporting? E.g Keppel Corp Legal entity but also a parent. FRS 103 talks about Keppel as a large economic entity. FRS 103 does not apply to the stand-alone entity. Back to the cost concept. It does not say anything and then you assume you do not apply. The other view is conceptual. You should not have two-investment amount one from legal and other is group. Should we have same or different approach for legal and group? The textbook view is the conceptual view. One amount for investment clearly eliminate that. SAME AMOUNT. Slide 27 These are men-made standards. There are other ways of determining goodwill actually.

Advanced Financial Accounting - Week 1

FRS 103 allows two ways. The interesting thing is that when you read the ED there is only one way. And then few months later the financial standard came in there are 2 ways. There were a lot of lobbying activity the old method was then put back. What you learn in Accounting theory is very true. Standard setting is very political process. IASB more lenient. FASB only one way. The choice is how you measure the non-controlling interest at acquisition date. How you measure the amount of non-controlling interest. One is alternative 1.Measure the NCI including goodwill. The second alternative is old method. This method actually capture NCI as a proportion of NIA. Excludes goodwill. The first item is fair value of consideration transferred. The first block that you bought (20%) have to re-measure to the now value. Has to be remeasured and then you can combine them with the other. 50% (FV of consideration), 30% amount of non-controlling interest (30%), and FV of previous held interest (20%). What are the sum? What are we measuring here? Future benefit of the acquisition. Control premium applies only to the acquirer. Apply to the: Fair value of consideration transferred 50%* FV of the acquiree (e.g. $5.50 in the Rob) E.g. Robinson is now delisted. At one point market price is $5.50 not a very exiting stock but dividend is stable. Somebody asked to buy for $6.50. Another bidder came in then finally the final price was $7.50. The bidder was billing to pay $2 to capture the market. NCI not willing to give up the share. So you have to persuade the NCI holder. Theres the control premium. Control premium is subset of goodwill. Control premium only applies to the block of shares to allow acquirer to cross or to get control. Control premium should not be extrapolated to the other two elements. The NCI should not be any control premium. Likewise, control premium should not be pushed down to the 20%. Control premium is only applied to the incremental share that allows the acquirer to get the control. Whats the difference between FV of acquiree and FV of INA? In the literature we have the name for that? Goodwill. Core or Organic Goodwill. E.g. orchestra they have INA but when they play orchestra they create music that si more beautiful than they play individually. The conductor is part of the unrecognized asset. INTERNAL SYNERGIES. Internally Generated Goodwill = FV of Acquiree FV of INA. This is the accounting way to determine goodwill. Any thought about this process? 1. Residual approach to determining goodwill / gain from bargain purchase. 2. May include measurement errors whether it is the (market or internal) 3. Goodwill will also include identifiable elements that do not meet recognition. There are some intangible assets that do not meet the recognize criteria. E.g intangible assets contract in negotiation potential contract that is not yet signed but potentially signed. 4. If you do not recognize the intangible asset then you will have an effect on goodwill. If you do everything correctly, goodwill will be fair. Include recognition errors e.g internally generated intangible assets. 5. Goodwill will include the control premium. E.g in the Robinson case previously the buyer would have included the $2 control premium. When DBS bought bank they made sure that they would get it and threw all the money in the table. Later on they would Advanced Financial Accounting - Week 1

have to impair it. There was a very big impairment loss. So these control premium, what exactly is it? The impairment exercise has been done every 12 months. You only have 12 months to recoup the synergy. So todays control premium may be tomorrows impairment loss. 6. Indirect measure of goodwill. There are two types of goodwill core goodwill. Combination goodwill. What is combination goodwill? Previously we talk about core goodwill. Combined Goodwill = Expected Synergy = FV of the group [FV of individual entities] Control premium is an invisible item that will be included in the goodwill. How that control premium arises? E.g why they chose to pay $2, there are bidding wars. Whether they want to pay more or pay less depend on how much they want to pay the company. Slide 29 NCI collectively exist as one. Previously the name of NCI was Minority Interest. Why there are name changes? Control here determine by what factors? Control is NOT a quantitative attribute. The previous word minority interest, not that right. You can be a minority interest but have control. Actually control is qualitative, NOT quantitative as referred previously. Slide 30 For each Business Combination. The standard is very lenient, you can choose for each acquisition. You can apply different method for different acquisition. In the shoes of the CFO, and you are going to make recommendation about which alternative to use. How it will affect the company? Managers etc. If you have a choice of alternative one and two which will you choose? The alternative one is entity theory looking at the full. The second one is parent theory. Entity theory is better and provides more information. Asset Equity NPAT Performance Ratio Debt Equity Profit Ratio Size Manager Compensation Alternative 1 Full Goodwill Higher Higher Lower (Impairment Loss) Lower Lower Lower Higher Alternative 2 Lower Lower Higher Higher Higher Higher Lower

Some business related cost and consideration. 1. Some management compensation related to size REITs based on property. Volume based contracts. 2. Political cost the hypothesis, the larger the political cost, the more likely the company want to remain smaller. E.g SMRT do not want to look as profitable. Not want to be seen from expropriating wealth. They want to look small. Microsoft once they want to hide because they were afraid of monopoly. Great likelihood of losing your license e.g Advanced Financial Accounting - Week 1

3. Debt Covenant if you have to debt covenant you want to maintain your profit, you lose alternative two has less impairment loss. 4. US GAAP has no choice alternative one. So if you think about convergence. If you are listed at NYSE, you must follow the regulation there.

Advanced Financial Accounting - Week 1