Memo

To: Sara Lewin

From: Sam (Staff Accountant)
Subject: Diginet Acquisition

Dear Sara,
As requested, I have prepared a report outlining the following main points:
 How a purchase price must be determined according to IFRS.
 An evaluation of whether the purchase price assigned by Diginet to the Interwip acquisition
is in accordance with IFRS.
a) An evaluation of the Diginet purchase price allocation assumptions.
b) The final purchase price allocation is said to be subject to further refinement. What is
implied by this statement?
c) What is the impact of the current allocation on Diginet’s and Telnet’s future
consolidated financial statements
 How the transaction affected Interwip and Telnet.
I have made an in depth analysis based on these requests and have provided my
recommendation to adjust the transaction in question. In order to identify the correct and
incorrect details of the preliminary financial statements submitted by Diginet, we must first
assess the acquisition of Interwip. Interwip has agreed to transfer full control of operations to
Diginet and henceforth become a wholly owned subsidiary. This acquisition was accomplished
through a complete 100% share purchase. In the process, the company Telnet (which
previously owned 51% of Diginet) had its shares diluted to a non-controlling interest of 41%.
You will find below my findings to your requests.

Sincerely,

Sam
Staff Accountant - OSC

Created by: David Atella, Cindy Moyal & Patrice Gagnon

 Many different factors have to be considered in determining the purchase price. Each of these
factors is considered below before concluding on a price that would be acceptable for recording
the acquisition.
Identifying the Acquirer
As a publicly traded company, Diginet must determine a purchase price according to IFRS and
will use the acquisition method. A purchaser must be identified and evidence of control must be
identified for the transaction to be completed. These points must be verified in order to confirm
that Diginet possesses’ control and consequently is the acquirer:
1. Power: Does Diginet determine the relevant business activities of the acquired business?
Diginet acquires 100% of the shares of Interwip and Interwip’s common stock will no
longer trade on the Toronto Stock Exchange. Given that no other entities own or can own
voting rights to Interwip we can confirm, with absolute certainty, that Diginet meets the
power criterion of control.
2. Variable return: Can Diginet receive earnings generated from the newly acquired company
that are not fixed and have potential to vary? Diginet will receive and record all the
earnings generated by Interwip’s operations which will vary given the performance of the
company
3. Link: Do we possess the ability to use power to affect our return? Based on the acquisition
information given to us stating the purchase of 100% of the Interwip shares, we can
confirm, with absolute certainty, Diginet could dictate any type of variable returns.
The Acquisition Date
The acquisition date is the date of which the acquirer obtains control of the acquiree. Given that
Diginet acquired the shares of Interwip rather than the net assets, Diginet must record the
shares acquired at Fair Value plus certain acquisition costs. Identifying the acquisition date is
necessary in assessing the fair value of the shares acquired, determining goodwill and adjusting
acquired assets and assumed liabilities to fair value. Diginet acquired control of Interwip on
August 31, 2018 and the fair value of the shares issued and received will be based on the
closing price of Interwip’s common shares at close on that date.
Recognizing and Measuring Identifiable Assets and Liabilities
Per IFRS 3, the acquirer shall recognize (separately from goodwill) the identifiable assets
acquired & the assumed liabilities at fair value. Through an acquisition analysis, an adjustment
will be made at the acquisition date to adjust the newly acquires assets and assumed liabilities
to fair value. Diginet will consolidate their financial statements with the acquiree because they
acquired all controlling interest in Interwip. Identifying the aforementioned assets and liabilities
is necessary because determining the purchase price results in a gain on bargain purchase or the
creation of goodwill. Once the fair value of the acquired shares (and certain acquisition costs)
are recognized at the acquisition date, the company recognizes the goodwill or gain and the
acquisition (in terms of recognizing a purchase price) is completed.
An evaluation of the Diginet purchase price allocation assumptions.
The aggregate purchase price was estimated at $9.6 million and was based on the closing
market price of Interwip’s common shares on the closing day of the Merger, the value of the
assumed Interwip stock options, and the merger-related costs. The following assumptions are
highlighted for your attention based on this estimate:
 Merger-related costs should not be included in the purchase price allocation. These
expenses, totalling $2.5 million should be subtracted from the purchase price.
 The assumed Interwip Stock options valued at 18$ per option are correctly included in
the purchase price as they are considered assumed/contingent liabilities
 There are no costs related to debt and equity issuance fees are treated differently from
the abovementioned acquisition-related costs
The aggregate purchase price will be $9,600,000 – $2,500,000 = $7,100,000.
The following acquisition analysis would then be recorded (in ,000s):
Consideration Transferred: 7,100
Net Assets Acquired Book Value Fair Value Fair Value Adjustment
Tangible Assets 1,240 1,881 1,881 - 1,240 = 640
Assumed Liability (400) (475) (475 – 400) = (75)
Acquired Technology 2,000 5,000 5,000 – 2,000 = 3,000
In-Process R&D 1,000 2,500 2,500 – 1,000 = 1,500
Government Contracts 0 800 800 – 0 = 800
__________ ________
3,840 + 5,865 = 9,705
Tax (40%) (2,346)
Total 7,359
Bargain Purchase 259

Refinement of the final Purchase Price Allocation

The purchase price allocation is the process through which Diginet acquires Interwip
and allocates the purchase price to various assets and liabilities acquired from the transaction.
The final purchase price is subject to further refinement. What is implied by this statement? I
believe that the purchase price is subject to further refinement for the following reasons.
 The purchase price is subject to change due to impairment. Once the goodwill is
calculated, it is tested periodically for impairment. If Diginet later recognizes impaired
goodwill then the business combination failed to meet its expectations and
consequently lead to the refinement of the purchase price. The acquisition was
accounted for using the acquisition method. The total book value of Interwip assets at
August 31st, 2018 was $1,240 and the total book value of the assumed liabilities was
$400 (in ,000s). The allocation of the purchase price was $1,881 for tangible assets,
$475 for assumed liabilities, $2,050 for acquired technology assets, $1,000 for R&D,
and finally, $7,177 for the goodwill (in ,000s). This allocation is subject to refinement
due to the fact that the fair value can fluctuate due to market conditions, time in use or
many other factors. This could be done within the year of acquisition and could
potentially lead to the refinement of the purchase price.
 The purchase price is subject to change due to the acquisition date. Diginet has
announced the acquisition of Interwip on June 15th, 2018 and has finalized the
acquisition on August 31st, 2018. Since there was a time difference between the date of
the announcement and the date of the actual acquisition, the purchase price is subject to
change in order to reflect that of the acquisition date on August 31st. As previously
mentioned, we only recognize the purchase price and acquisition once the acquirer
obtains control of the acquiree.
The impact of the current allocation on Diginet’s and Telnet’s future consolidated
Financial Statements
As a result of the merger between Diginet and Interwip, Telnet has seen their interest in
Diginet diluted from 51.7% to 40.7%. From Telnet’s perspective, they no longer see
themselves as a controlling interest to Diginet and now recognize the previously known
subsidiary as associates.
A controlling interest under IFRS is required to perform a consolidated financial statement.
Therefore, if Diginet is no longer considered a subsidiary of Telnet, no consolidation is
required to be performed. However, from a disclosure perspective, Telnet must address their
judgement and assumptions regarding the determination of control. If Telnet owns 40.7% of the
shares of Diginet, how much power do they have over the decision-making? Do they hold a
minority of voting rights?Are there other large investors in Diginet who have significant
influence? What types of agency relationships exist? Do they have a right to obtain variable
returns? Can they exercise power to affect returns?
When you move from a subsidiary to an associate there are some differences regarding how the
financial statements will be reported. Previously, we would have included the subsidiary in the
financial statements and Telnet would include Diginet’s assets and assumed liabilities on their
balance sheet.
Another important consideration is the reporting requirements after the loss of control in
Diginet. IFRS 10 states that these procedures must be followed when loss of control occurs:
At the date of the loss of control, Telnet would have to derecognize on their balance sheet:
 Assets (including goodwill) and the assumed liabilities of Diginet
 Non-controlling interest including attributable OCI from Diginet
Telnet would then recognize at fair value at the date of loss of control:
 The investment retained in Diginet
 The gain or loss resulting from the difference in value of the investment after loss of
control
If Telnet had received any consideration for this transaction, they would also recognize it at fair
value; however, in this case they did not receive any consideration.
Finally, Telnet needs to reclassify any comprehensive income as a result of the loss of
control to the P/L account or directly to the retained earnings account (dependant on IFRS
requirement) as if the subsidiary had directly disposed of the assets and liabilities. From the
date of loss of control, Telnet would then use the equity method to account for their investment
in Diginet because it still owns a significant influence in Diginet. Telnet would record a claim
to 40.7% of Diginet’s earnings on their financial statements.
As for the relationship between Telnet and Interwip, Telnet would not have any
influence over Interwip because Telnet only holds a significant influence over Diginet and no
longer possess’ control over them. However, because Diginet controls 100% of Interwip, and
because they report consolidated financial statements, Telnet would use the equity method to
record the earnings for Interwip, which are consolidated with Diginet’s earnings.
Recommendation
The Purchase Price at Aug 31, 2018 must be adjusted to not include the acquisition related
costs. Diginet must make the proper adjustments to their financial statements to accurately
recognize the correct bargain on purchase.