International Convergence: The Case of Accounting for Business Combinations

CPA Journal, The, Apr 2008 by Dorata, Nina T, Badawi, Ibrahim M

SFAS 141(R) requires the use of provisional amounts for the acquisition if the accounting is incomplete by the end of the reporting period. During the measurement period, the acquirer may retrospectively adjust provisional amounts previously reported. The measurement period may not exceed one year from the acquisition date. Any revisions to the acquisition accounting beyond the measurement period require an adjustment to retained earnings in accordance with SFAS 154, Accounting Changes and Error Corrections.

Although FASB and the IASB did not jointly write the exposure drafts on accounting for noncontrolling interests, their respective exposure drafts propose similar guidance. Specifically, SFAS 160 requires the presentation of a noncontrolling interest within equity, separately from the parent's shareholders' equity. IAS 27 already requires presentation of a noncontrolling interest in equity. The boards did not, however, achieve convergence with regard to the measurement of noncontrolling interests. FASB requires measurement of a noncontrolling interest at fair value; the IASB permits measurement at either fair value or book value of net assets acquired.

SFAS 141(R) requires business combinations that were exempt from SFAS 141 (e.g., cooperatives and mutual entities) to use the acquisition method. Moreover, valuation specialists may need to be more involved in order to measure the fair value of an acquiree as a whole in a partial acquisition that qualifies as a business combination. When including the portion attributable to a noncontrolling interest, the recognition of full goodwill may result in larger amounts of goodwill that will be subject to annual impairment testing.

Accounting for Acquisition Transaction and Restructuring Costs

SFAS 141 required that the purchase price include direct acquisition transaction costs, such as payments made by the acquirer to third parties for legal and consulting fees, banking fees, accounting fees, and fees for valuation services. SFAS 141(R) requires that transaction costs be accounted for separately from the business combination, because they do not represent assets acquired and liabilities assumed. Accordingly, these costs are expensed as incurred rather than capitalized as part of the business combination cost.

Excluded from the acquisition accounting are costs the acquirer incurs to achieve synergies through exiting acquiree activities or through relocation or termination of acquiree employees. The acquirer accounts for restructuring costs using the guidance of SFAS 146, Accounting for Costs Associated with Exit or Disposal Activities, which requires expense treatment. Collectively, the guidance for acquisition-related costs incurred not only in the year of the business combination but also in subsequent years will improve transparency of the transactions at a cost of lower and more volatile earnings.

Accounting for Contingencies

A controversial aspect of SFAS 141(R) is its treatment of contingent assets and liabilities. Contingencies are identifiable assets acquired or liabilities assumed whose ultimate benefit or settlement is contingent or conditional on the outcome of some future event. Contractual contingencies are recognized at the acquisition date, separately from goodwill, and at fair value. The acquirer must use the "more likely than not" criterion found in Statement of Financial Concepts 6, Elements of Financial Statements, to recognize noncontractual contingencies as part of the acquisition. Otherwise, noncontractual contingencies that do not meet the "more likely than not" criterion follow the guidance of SFAS 5, Accounting for Contingencies.