Fischer 11th Edition Powerpoint Chapter 1

FISCHER | TAYLOR | CHENG

Business Combinations: New Rules for a Long-

Standing Business Practice

Acquisition of Control

• Acquire net assets– Acquire directly from target company– Assume liabilities– Payment in cash, debt, or equity

• Acquire controlling interest– Typically more than 50% of target’s voting common

stock– Creates parent/subsidiary relationship– Separate legal entities remain

COPYRIGHT © 2012 South-Western/Cengage Learning 2

Acquisition of Control

• Accounting ramifications – asset acquisition– Acquiring company records assets and liabilities– Subsequent accounting procedures are same as for

any single accounting entity

• Accounting ramifications – stock acquisition– Parent records an investment– Parent and sub remain separate legal entities with

their own separate sets of accounts and separate financial statements

– Consolidated financial statements reflect presence of one economic entity


Applying the Acquisition Method

• Measure the fair value of the acquiree• Record the acquiree’s assets and liabilities that are

assumed– Net assets = excess of assets over liabilities– Identifiable assets never include pre-existing goodwill– Only “new” goodwill is recorded in an acquisition– Fair value of net assets NE fair value of the acquiree as an

entire entity


Valuation of Identifiable Assets and Liabilities

• Current assets recorded at fair value• Existing liabilities recorded at fair value• Property, plant, and equipment recorded at fair

value• Assets scheduled for sale are recorded as

current assets at net realizable value



• Acquiree was the lessee of assets in use– Leases retain their definition if terms are not modified– Operating leases

• Recognize an intangible asset if terms are favorable• Record an estimated liability if the terms are unfavorable


Example:Excess of current payment over contractual amount $300Remaining term of lease (months) 60Annual discount rate 8%Asset (present value beginning mode) $14,894


• Acquiree acted as lessor – Leases retain their definition if terms are not modified– Operating lease

• Asset under lease is on books of acquiree

• Record at fair value

• Evaluate terms; record asset (liability) if favorable (unfavorable) to the acquiree/lessor

• Intangible assets not separately recorded– Arises from contractual or other legal rights or is separable– Identify and record separately



• Research and development– Fair values of tangible and intangible assets are recorded

• Contingent assets and liabilities– Possessed by acquiree on the acquisition date

• Liabilities associated with restructuring or exit activities– Existing liabilities to other entities

• Employee benefit plans– Liability if projected benefit obligation > plan assets– Asset if projected benefit obligation < plan assets

• Deferred tax assets and liabilities


Applying the Acquisition Model

Bal Sheet

10/1/2011

Cash 40,000 book value 40,000 Marketable securities 60,000 L1 - market 66,000 Inventory 100,000 L1 - market 110,000 Land 30,000 L2 - adj mkt 72,000 Buildings (net) 150,000 L2 - adj mkt 288,000 Equipment (net) 80,000 L1 - market 145,000 Customer list L3 - other est 125,000 Current liabilities (25,000) book value (25,000) 8% 5-yr bonds (100,000) face (100,000) Premium on bond pay L2 - adj mkt (4,000) Warranty liability L3 - other est (12,000) $1 par common stock (10,000) Addn'l pd-in capital (140,000) Retained earnings (185,000)

-

fair value of net identifiable assets 705,000

FASB ASC 820-10-35

10/1/2011


Recording the Acquisition

• All accounts are recorded at fair value• Price paid > fair value of net identifiable assets

– Recognize goodwill

• Price paid < fair value of net identifiable assets– Recognize gain on acquisition of business

• All acquisitions costs are expensed


Recording the Acquisition: Goodwill

Price paid (40,000 shares × $20 mkt value) $ 800,000Fair value of net assets acquired (705,000)Goodwill $ 95,000


Recording the Acquisition: Gain

Price paid (25,000 shares × $20 mkt value) $ 500,000Fair value of net assets acquired (705,000)Gain $ 205,000


Accounting by the Acquiree

• Record receipt of consideration• Remove assets and liabilities at their book

values• Recognize gain or loss on sale of business• Typical final step

– Distribute consideration received to shareholders– Cease operations


Goodwill Impairment


Test: Goodwill is impaired if estimated value of business unit is less than remaining book value of net assets (including goodwill).

New goodwill estimate:Estimated value of business unit

– New estimate of identifiable net assets at fair value= New goodwill estimate

Impairment Loss:Book value of goodwill

– New goodwill estimate= Impairment loss

Impairment: Example


Recorded $100,000 goodwill in purchase three years ago.

Now:

Net assets at book value $650,000

Fair value of the business unit $625,000

Fair value net identifiable assets

(not including goodwill)$580,000

Impairment Calculations

Test

Estimated value of business unit $625,000Book value ofassets (includinggoodwill) 650,000Excess book $25,000

Goodwill is impaired

Adjustment

Estimated value of business unit $625,000Fair value ofidentifiable assets,not including GW 580,000New GW estimate 45,000GW book value 100,000Impairment loss $55,000


Suggested Problems


• Exercise: 1, 2, 3, 4, and 9• Problem: 1, 2, and 5

Documents

Fischer 11th Edition Powerpoint Chapter 1