Determining goodwill

[sowrudy]

Hi Team,

Sorry If I posted too many questions in a day, but exam is close and I need help

My question is about determining goodwill during the group consol. As i understand, goodwill is simply the difference between the equity value of the Sub and the consideration paid.

From what I found on the Internet and my text book, all the example given is that the goodwill is always determined from the different of sub's share capital and retained earning at the time of acquisition, I don't know if it's just coincidental. But I understand that equity can have more items than just share capital and retained earnings.

My question is, what if the sub's balance sheet at the time of acquisition also has other equity items like hedge reserves, revaluation reserve, dividend issued, investment from ABC corp, etc. Do I sum them up along with shared capital and Retained earnings and subtract the sum with the consideration paid (price paid to acquire sub), or I just need to sum up the shared capital & RE then minus the consideration paid?


Thanks in advance
Sowrudy

[JRSB]

I know what you mean about text books here. Look at it this way, equity is the same as net assets (which is why a balance sheet balances). so what you actually do is compare consideration to the FAIR VALUE of net assets. if fair value is the same as book value, then net assets acquired is the same as equity acquired.

[sowrudy]

Thanks JRSB

So just say if I were working as an accountant and my boss gave me a balance sheet of the new company he just bought/acquired, but he didn't tell me the fair value, is it common for accountant to go ahead using the equity to work out the goodwill by assuming the fair value is equal to equity?

Quite often, many companies acquired are small companies that accountants may not have knowledge of the industry nor able to work out the fair value beyond the equity value.

[Leo]

Goodwill is the difference between the consideration paid and the fair value of the net assets of the company acquired.

This means that you have to work out what's the consideration paid and how the fair value has been determined. You don't have these information from looking at the conso software. Those must be given by the M&A, or the finance team.

Youll need that for the disclosures too.

Every big groups have their MA team so it's fairly easy. But sometimes the group is poorly organised, so you might not have the information. So, in such case, what you can do is, investment in the subs will automatically eliminated when doing conso, and investment in subs is 99/100 the consideration paid. So that solve the point about the consideration paid. Leaving the fair value that you need to assess. Sometimes, when you.ve got nothing and you need to close the FS, you assume fair value equals nbv. But don't mention my name when you face the auditors.

[JRSB]

That will get you so far Leo but then you have to 'defend' an even bigger goodwill figure

[sowrudy]

Thanks All

As far as fair valued is concerned, can I actually measure the fair value of the Sub using EBITDA multiple and perpetuity growth method if I have the EBITDA number from the past 5 years?

[JRSB]

in practice you don't fair value the whole company, more its individual assets and liabilities. The objective is partially to identify any assets which weren't previously capitalised so that goodwill is minimised. If you value the whole company by EBITDA it won't tell you about individual assets. Could work in theory for an exam question I guess but that's not what happens.

[Marek Muc]

what exam are you studying for, if I may ask?

[sowrudy]

Hi Marek, it's an job placement exam at the end of my internship with a medium size private accounting firm. They examine what I have learned during the internship to decide whether to offer real employment.

[Marek Muc]

Cool, good luck then