UK’s FRC highlights areas for improvement in annual reporting for business combinations

The UK's Financial Reporting Council (FRC) published its thematic review of the accounting and reporting for Business Combinations. The review analyses the annual reports of 20 companies that recently completed a business combination.

The report includes extracts from the annual reports and accounts of companies and highlights better practice examples. The examples will not be relevant for all companies or all circumstances, but each demonstrates a characteristic of useful disclosure, the FRC said.

The FRC disclosed the report's top ten findings:

• The best reports gave clear and consistent explanations of the reasons for, and the impact of, the combination throughout the annual report, with careful thought given as to how to convey the information in an understandable and concise way.
• When alternative performance measures (APMs) were used to explain the impact of the combination, the best examples followed recommendations from the FRC's recent APM thematic.
• The better disclosures provided an explanation of the valuation techniques applied to value acquired assets and liabilities, the key assumptions used and disclosed this by significant class of asset and liability. They explained how fair value adjustments would unwind over time.
• Some companies used a three-column approach to present fair value adjustments to the previous carrying values, which can in some instances be helpful in highlighting material adjustments.
• Explanation of factors giving rise to goodwill were sometimes not provided or were boilerplate and of little benefit to readers.
• The requirements to determine whether share-based payments form part of the consideration or are accounted for as a post-combination expense are complex, and companies could improve their explanations of how such payments have been treated.
• Disclosures related to contingent consideration could be enhanced. Explanations of the arrangements were often boilerplate, and it was hard to understand the potential variability in the amounts.
• Some companies incorrectly reported cash flows for acquisition costs as investing cash flows. These should be classified as operating cash flows within the consolidated accounts.
• Accounting for business combinations often requires significant judgements and estimates to be made. When companies disclosed that there was significant estimation uncertainty, sensitivity disclosures could be improved.
• Companies need to be careful to apply the relevant provisions of IAS 12, Income Taxes. Combinations can give rise to additional deferred tax balances, for example when revaluing assets to fair value or reassessing the recoverability of assets.

The FRC said that companies should consider the IFRS 3, Business Combinations, requirements, but there are also disclosure requirements in the Companies Act 2006 and the Disclosure Guidance and Transparency Rules that could apply.

— To comment on this article or to suggest an idea for another article, contact Steph Brown at Stephanie.Brown@aicpa-cima.com.