They’re merging with a competitor so surely it must be a merger? In fact it’s not a merger but…

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The troubled US airline industry is going through a period of consolidation.  Consolidation in the sense of companies getting together to reduce their fixed costs per transaction, not consolidation in the sense of producing group accounts.

This article, however, is about group accounts.  The circumstances of the Continental/ United merger do make it look like it’s a voluntary merger and the stock market was conspicuously unsurprised at the news.

The problem is that IFRS 3 requires that for all new business combinations (a new business combination is one that doesn’t arise from a reconstruction of a pre-existing group), an acquirer and acquiree is identified.  This company is then the parent.  Often, a merger happens by a share-for-share exchange and the new parent chooses to change its name to a suitably “merged” sounding name.  But as far as the rules are concerned, one must be the acquirer and the other the acquiree.

So a decision will need to be made about which company becomes the parent. It’s likely that this will be the company with the greater retained earnings.  It’s also likely that formal merger will happen on the first day of the parent’s accounting period, so that a full year of “merged” profits is consolidated.

The group retained earnings of the new group will certainly be less than the sum of their individual parts, since the acquiree’s pre-acquisition profits will not be consolidated.

This may seem harsh if it’s truly a genuine merger, since the idea of pre-acquisition reserves should perhaps be restricted to where there’s a genuine acquisition.  So why is this option not allowed?  You can probably guess – it was subject to creative interpretation of what constituted a merger.  The IASB stated that they believed genuine mergers would probably happen globally about once every five years.

Perhaps Continental/ United is one such genuine merger?

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