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Accounting For Business Combinations
Accounting For Business Combinations
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Learning
Learning Objectives
Objectives
1. Describe the major changes in the accounting for business combinations passed by the
FASB in December 2007, and the reasons for those changes.
2. Describe the two major changes in the accounting for business combinations approved by
the FASB in 2001, as well as the reasons for those changes.
3. Discuss the goodwill impairment test described in SFAS No. 142 [ASC 350–20–35],
including its frequency, the steps laid out in the new standard, and some of the likely
implementation problems.
4. Explain how acquisition expenses are reported.
5. Describe the use of pro forma statements in business combinations.
6. Describe the valuation of assets, including goodwill, and liabilities acquired in a business
combination accounted for by the acquisition method.
7. Explain how contingent consideration affects the valuation of assets acquired in a business
combination accounted for by the acquisition method.
8. Describe a leveraged buyout.
9. Describe the disclosure requirements according to Current GAAP related to each business
combination that takes place during a given year.
10. Describe at least one of the differences between U.S. GAAP and IFRS related to the
accounting for business combinations.
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Historical
Historical Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 1 FASB’s two major changes for business combinations.
Historical
Historical Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 1 FASB’s two major changes for business combinations.
Historical
Historical Perspective
Perspective on
on Business
Business Combinations
Combinations
Historically,
Historically two methods permitted in the U.S.:
purchase and pooling of interests.
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LO 2 FASB’s two major changes of 2001.
Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on
Business
Business
Combinations
Combinations
Slide
2-7 LO 3
Perspective
Perspective on
on Business
Business Combinations
Combinations
E2-10: On January 1, 2010, Porsche Company acquired the net
assets of Saab Company for $450,000 cash. The fair value of
Saab’s identifiable net assets was $375,000 on this date.
Porsche Company decided to measure goodwill impairment using
the present value of future cash flows to estimate the fair
value of the reporting unit (Saab). The information for these
subsequent years is as follows:
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
E2-10: Part A&B: For each year determine the amount of
goodwill impairment, if any, and prepare the journal entry
needed each year to record the goodwill impairment (if any).
Step 1 - 2011
Fair value of reporting unit $400,000
Carrying value of unit:
Carrying value of identifiable net assets 330,000
Carrying value of goodwill 75,000
Total carrying value of unit 405,000
Excess of carrying value over fair value $ 5,000
Step 2 - 2011
Fair value of reporting unit $400,000
Fair value of identifiable net assets 340,000
Implied value of goodwill 60,000
Carrying value of goodwill 75,000
Impairment loss $ 15,000
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
E2-10: Part A&B (continued)
Step 1 - 2012
Fair value of reporting unit $400,000
Carrying value of unit:
Carrying value of identifiable net assets 320,000
Carrying value of goodwill 60,000 *
Total carrying value of unit 380,000
Excess of fair value over carrying value $ 20,000
Excess of fair value over carrying value means step 2 is not required.
* $75,000 (original goodwill) – $15,000 (prior year impairment)
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
E2-10: Part A&B (continued)
Step 1 - 2013
Fair value of reporting unit $350,000
Carrying value of unit:
Carrying value of identifiable net assets 300,000
Carrying value of goodwill 60,000 *
Total carrying value of unit 360,000
Excess of carrying value over fair value $ 10,000
Step 2 - 2013
Fair value of reporting unit $350,000
Fair value of identifiable net assets 325,000
Implied value of goodwill 25,000
Carrying value of goodwill 60,000
Impairment loss $ 35,000
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
Review Question
The first step in determining goodwill impairment involves
comparing the
a. implied value of a reporting unit to its carrying amount
(goodwill excluded).
b. fair value of a reporting unit to its carrying amount
(goodwill excluded).
c. implied value of a reporting unit to its carrying amount
(goodwill included).
d. fair value of a reporting unit to its carrying amount
(goodwill included).
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
Indefinite life
Should not be amortized.
Should be tested annually (minimum) for impairment.
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LO 3 Goodwill impairment assessment.
Perspective
Perspective on
on Business
Business Combinations
Combinations
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LO 5 Use of pro forma statements.
Pro
Pro Forma
Forma Statements
Statements and
and Disclosure
Disclosure Requirement
Requirement
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LO 5 Use of pro forma statements.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
E2-1: Preston Company acquired the assets (except for cash) and
assumed the liabilities of Saville Company. Immediately prior to the
acquisition, Saville Company’s balance sheet was as follows:
Any
Goodwill?
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
E2-1: Preston Company acquired the assets (except for cash) and
assumed the liabilities of Saville Company. Immediately prior to the
acquisition, Saville Company’s balance sheet was as follows:
Fair value
of assets,
without cash
$1,824,000
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
Calculation of Goodwill
Fair value of assets, without cash $1,824,000
Fair value of liabilities 594,000
Fair value of net assets 1,230,000
Price paid 1,560,000
Goodwill $ 330,000
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
Bargain Purchase
When the fair values of identifiable net assets (assets less
liabilities) exceeds the total cost of the acquired company,
the acquisition is a bargain.
In the past, FASB required that most long-lived assets be
written down on a pro rata basis before recognizing a gain.
Current standards require:
fair values be considered carefully and adjustments
made as needed.
any excess of acquisition-date fair value of net assets
over the consideration paid is recognized in income.
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
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LO 6 Valuation of acquired assets and liabilities assumed.
Explanation
Explanation and
and Illustration
Illustration of
of Acquisition
Acquisition Accounting
Accounting
Receivables 228,000
Inventory 396,000
Plant and equipment 540,000
Land 660,000
Liabilities 594,000
Cash 990,000
Gain on acquisition (ordinary) 240,000
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LO 6 Valuation of acquired assets and liabilities assumed.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
Goodwill 150,000
Liability for Contingent Consideration 150,000
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LO 7 Contingent consideration and valuation of assets.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
On the other hand, assume that the target is not met. The
adjustment will flow through the income statement
in the subsequent period, as follows:
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LO 7 Contingent consideration and valuation of assets.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
Illustration: P Company acquired all the net assets of S
Company in exchange for P Company’s common stock. P Company
also agreed to issue additional shares of common stock to the
former stockholders of S Company if the average post-
combination earnings over the next two years equalled or
exceeded $800,000. Assume that the contingency is expected
to be met, and goodwill was recorded in the original acquisition
transaction. Based on the information available at the
acquisition date, the additional 10,000 shares (par value of $1
per share) expected to be issued are valued at $150,000. To
complete the recording of the acquisition, P Company will make
the following entry:
Goodwill 150,000
Paid-in-Capital for Contingent Consideration 150,000
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LO 7 Contingent consideration and valuation of assets.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
Illustration: Assuming that the target is met, but the stock
price has increased from $15 per share to $18 per share at
the time of issuance, P Company will not adjust the original
amount recorded as equity. Thus, P Company will make the
following entry
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LO 7 Contingent consideration and valuation of assets.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
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LO 7 Contingent consideration and valuation of assets.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
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LO 7 Contingent consideration and valuation of assets.
Contingent
Contingent Consideration
Consideration in
in an
an Acquisition
Acquisition
Review Question
Which of the following statements best describes the current authoritative
position with regard to accounting for contingent consideration?
a. If contingent consideration depends on both future earnings and future
security prices, an additional cost of the acquired company should be
recorded only for the portion of consideration dependent on future
earnings.
b. The measurement period for adjusting provisional amounts always ends
at the year-end of the period in which the acquisition occurred.
c. A contingency based on security prices has no effect on the
determination of cost to the acquiring company.
d. The purpose of the measurement period is to provide a reasonable time
to obtain the information necessary to identify and measure the fair
value of the acquiree’s assets and liabilities, as well as the fair value of
the consideration transferred.
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LO 7 Contingent consideration and valuation of assets.
Leveraged
Leveraged Buyouts
Buyouts
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LO 10 Differences between U.S. GAAP and IFRS .
IFRS
IFRS Versus
Versus U.S.
U.S. GAAP
GAAP
Other differences and similarities:
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LO 10 Differences between U.S. GAAP and IFRS .
IFRS
IFRS Versus
Versus U.S.
U.S. GAAP
GAAP
Other differences and similarities:
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LO 10 Differences between U.S. GAAP and IFRS .
IFRS
IFRS Versus
Versus U.S.
U.S. GAAP
GAAP
Other differences and similarities:
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LO 10 Differences between U.S. GAAP and IFRS .
IFRS
IFRS Versus
Versus U.S.
U.S. GAAP
GAAP
Other differences and similarities:
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LO 10 Differences between U.S. GAAP and IFRS .
IFRS
IFRS Versus
Versus U.S.
U.S. GAAP
GAAP
Other differences and similarities:
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LO 10 Differences between U.S. GAAP and IFRS .
Deferred
Deferred Taxes
Taxes in
in Business
Business Combinations
Combinations
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Deferred
Deferred Taxes
Taxes in
in Business
Business Combinations
Combinations
Illustration: Taxaware Company has net assets totaling
$700,000 (market value), including fixed assets with a market
value of $200,000 and a book value of $140,000. The book values
of all other assets approximate market values. Taxaware Company
is acquired by Blinko in a combination that qualifies as a
nontaxable exchange for Taxaware shareholders. Blinko issues
common stock valued at $800,000 (par value $150,000). First, if
we disregard tax effects, the entry to record the acquisition
would be:
Assets 700,000
Goodwill 100,000
Common Stock 150,000
Additional Contributed Capital 650,000
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Deferred
Deferred Taxes
Taxes in
in Business
Business Combinations
Combinations
Illustration: Now consider tax effects, assuming a 30% tax rate.
First, the excess of market value over book value of the fixed
assets creates a deferred tax liability because the excess
depreciation is not tax deductible. Thus, the deferred tax
liability associated with the fixed assets equals 30% $60,000
(the difference between market and book values), or $18,000.
The inclusion of deferred taxes would increase goodwill by
$18,000 to a total of $118,000. The entry to include goodwill is
as follow:
Assets 700,000
Goodwill 118,000
Deferred Tax Liability 18,000
Common Stock 150,000
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Additional Contributed Capital 650,000
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Copyright
Copyright
Copyright © 2012 John Wiley & Sons, Inc. All rights reserved.
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in Section 117 of the 1976 United States Copyright Act
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caused by the use of these programs or from the use of the
information contained herein.
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