Overview of Accounting for Business Combinations

Learning Objectives

• Students completing this module should be able to:

  • Provide a concise but complete summary of the accounting literature that governs business combinations.

  • Explain and evaluate push-down accounting, common-control transactions, and asset acquisitions.

  • Describe key SEC reporting requirements triggered by significant acquisitions.

  • Compare U.S. GAAP (ASC 805 and related Topics) with IFRS 3.

Context & Philosophy

• Each combination is unique ➔ research beyond the module is encouraged (“think and see beyond the box”).

• A business combination = any transaction in which an acquirer gains control of a business.

• Control has the same meaning as “controlling financial interest,” which is assessed via ASC 810-10 (VIE model or voting-interest model).

Milestones in U.S. GAAP for Business Combinations

• Phase 1 (2001) — FASB Statements 141 & 142

  • Eliminated pooling-of-interest; required purchase method.

  • ASC 350 (from Statement 142) stops goodwill amortization; introduces impairment testing & separate recognition of certain intangibles.

• Phase 2 (Dec 2007) — Statements 141(R) & 160 ➔ codified in ASC 805 & ASC 810-10

  • Coined the broader term “acquisition method.”

  • Covers any event where control of a business is obtained (not limited to a purchase).

  • Added principles-based framework (recognition & measurement principles).

• Convergence with IASB: Most issues aligned; some differences remain (see Appendix E).

• Subsequent ASUs that amend ASC 805 referenced throughout:

  • ASU 2017-01 (business definition screen).

  • ASU 2015-16 (simplified measurement-period adjustments).

  • ASU 2014-17 (pushdown accounting option).

Core Premise of ASC 805

• On obtaining control, the acquirer becomes accountable for all assets & liabilities ➔ recognize them at fair value on the acquisition date, regardless of % acquired.

Recognition Principle

• Must recognize identifiable assets, liabilities assumed, and any non-controlling interest (NCI) separately from goodwill.

Measurement Principle

• Measure those items at acquisition-date fair value.

• Limited exceptions (e.g., taxes under ASC 740, pensions under ASC 715, contingencies, indemnification assets).

Identifying a Business Combination

• ASC Master Glossary: “Transaction or other event in which an acquirer obtains control of one or more businesses.”

• Not limited to purchases; encompasses consolidations, contract changes, step acquisitions, etc.

Does the Acquiree Qualify as a Business?

• ASU 2017-01 screen:

  • If substantially all fair value of gross assets is concentrated in one identifiable asset (or similar group) ➔ NOT a business (treat as asset acquisition).

• When screen fails ➔ must have (a) input + (b) substantive process ➔ together capable of creating outputs.

• Effective dates:

  • Public entities: annual periods after 12-15-2017.

  • All others: annual periods after 12-15-2018; interim periods after 12-15-2019.

  • Prospective application; early adoption allowed.

Acquisition Method — Four Mandatory Steps (ASC 805-10-05-4)

1. Identifying the acquirer

   • Start with ASC 810-10 guidance; if unclear, apply tiebreaker factors in ASC 805 (§ Module 4).

2. Determining the acquisition date

   • Generally the closing date; may differ in rare cases.

3. Recognizing & measuring identifiable assets, liabilities & NCI

   • Use fair value; observe specific Scope exceptions (taxes, pensions, indemnifications, contingencies, etc.).

4. Recognizing & measuring goodwill or bargain-purchase gain

   • Goodwill is residual:
     $\text{Goodwill}=\bigl[(1)\;\text{Consideration Transferred} + (2)\;\text{Fair Value of NCI} + (3)\;\text{Fair Value of Previously Held Equity}\bigr] - \text{Net Identifiable Assets Acquired}$

   • If the bracketed sum < net assets ➔ recognize bargain purchase gain (after reassessment).

   • Consideration can be cash, non-cash assets, equity, contingent consideration, share-based awards (latter at ASC 718 FV-based measure).

Measurement-Period Adjustments

• Upper limit = 1 year from acquisition date.

• ASU 2015-16: adjustments are recognized prospectively in the period identified (no longer restate prior periods); include catch-up of related P&L effects (depreciation, etc.).

Items Not Part of the Business Combination

• Payments that settle pre-existing relationships.

• Compensation for future services (e.g., replacement awards).

• Acquirer’s deal costs (legal, banker fees, etc.).

• These must be accounted for separately (expensed or capitalized per other GAAP).

Disclosure Objective (ASC 805-10-50)

• Provide info sufficient for users to evaluate nature & financial effect of the combination.

• If minimum list inadequate ➔ disclose additional information to satisfy the objective.

Private-Company & Not-for-Profit (NFP) Alternatives

• PCC’s dual mandate: develop exceptions/modifications; advise FASB.

• ASU 2014-18 (private-company): may not recognize separately:

  • Customer-related intangibles (unless sale/licensing possible).

  • Non-compete agreements.

• ASU 2014-02 (goodwill):

  • Amortize goodwill straight-line ≤ 10 yrs.

  • Impairment only on triggering events.

  • Test at entity or reporting-unit level; removes Step 2.

• ASU 2019-06 extends both alternatives to NFP entities.

Push-Down Accounting (ASC 805-50-PUSH)

• Definition: Acquiree elects to re-measure its standalone FS using acquirer’s new-basis FV amounts upon change-in-control.

• ASU 2014-17: grants optional application to public & non-public acquirees; replaces prior SEC-only guidance & bright-line thresholds.

Common-Control Transactions (ASC 805-50-CC)

• NOT business combinations (parent retains control).

• Receiving entity & transferring entity use parent’s historical cost of net assets.

• Differences between proceeds & carrying amount ➔ recognized in equity, eliminated on consolidation.

• Receiving entity may report prospectively or retrospectively; transferring entity usually shows a disposal.

Asset Acquisitions (ASC 805-50-AA)

• Involves assets that fail business definition.

• Accounting = cost-accumulation model

  • Allocate total cost (including certain transaction costs) to assets acquired pro-rata on relative FVs.

  • No goodwill; no bargain-purchase gains.

  • Contrast: Business combination uses fair-value model (exclude deal costs; recognize goodwill or gain).

SEC Reporting Considerations (Registrants)

• Reg S-X Rule 3-05: acquiree FS may be required when a significant business acquisition is probable or consummated.

  • Significance tests differ from ASC 805’s business test (Rule 11-01(d)).

  • Periods & pro forma info (Article 11) depend on level of significance.

• Rule 3-14: special abbreviated FS for real-estate operations.

• May 2019 SEC Proposed Rule: aims to streamline by

  • Revising significance tests (reduce anomalous outcomes),

  • Requiring fewer periods / circumstances,

  • Permitting abbreviated FS in more cases,

  • Introducing two pro-forma adjustment categories:

  1. Transaction-accounting adjustments (mandatory bookkeeping for the deal).

  2. Management’s adjustments (reasonably estimable synergies & other effects).

Comparison – U.S. GAAP vs IFRS

• Both frameworks largely converged after joint 2007 effort.

• Remaining differences summarized in Appendix E (e.g., contingent consideration classification, measurement period nuances, step-acquisition re-measurement mechanics).

References & Suggested Reading

• Deloitte, “A Roadmap to Accounting for Business Combinations,” by Michael Morrissey, Stefanie Tamulis et al.

• Deloitte, “A Roadmap to SEC Reporting Considerations for Business Combinations.”

• Related Heads Up (May 9 2019) on SEC’s proposed changes.

End of consolidated study notes for ACTG6483 — Overview of Accounting for Business Combinations.