Chapter 5 Business Combinations
Objectives of the Chapter <ul><li>1.  To discuss the general view of  business combinations. </li></ul><ul><li>2.  To lear...
Objectives of the Chapter <ul><li>3 .  To discuss the development of  two alternatives for business  combinations from a h...
Objectives of the Chapter <ul><li>5 .  To learn accounting for statutory  consolidation (using purchase  method).  </li></...
Business Combinations <ul><li>Business combinations: events and transactions in which two or more business enterprises, or...
Business Combinations (contd.) <ul><li>FASB’s terms for the business entities involved in the business combination: </li><...
Business Combinations (contd.) <ul><li>c.Combinor : a constituent company whose owners end up to have control of the owner...
Types of Business Combinations <ul><li>Friendly takeovers </li></ul><ul><li>Hostile takeovers </li></ul>
Reasons for Business Combinations <ul><li>For the combination in a friendly takeover:  </li></ul><ul><li>  a.Growth.   </l...
Reasons for Business Combinations (contd.) <ul><li>b.Obtaining new management strength or better use of existing managemen...
Four Methods for Carrying Out Business Combinations <ul><li>1.Statutory Merger   Procedures of statutory merger: </li></ul...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>c. the survivor issues its common stock  or other con...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>2. Statutory Consolidation :   a new corporation is f...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>c.  a new corporation is formed to issue  its common ...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>3.Acquisition of Common Stock (a method for most of h...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>b. acquiring target firm’s common  stock  in an open ...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>c. When acquiring enough shares  to  have the control...
Four Methods for Carrying Out Business Combinations (contd.) <ul><li>4. Acquisitions of Assets :  </li></ul><ul><li>Busine...
Establishing the Price for a Business Combination <ul><li>1. Capitalization of expected average annual earnings of the com...
Methods of Accounting for Business Combinations <ul><li>Pooling of Interest Accounting versus Purchase Accounting </li></u...
Methods of Accounting for Business Combinations <ul><ul><li>Purchased Goodwill   </li></ul></ul><ul><ul><li>= AAP – combin...
Methods of Accounting for Business Combinations (contd.) <ul><li>Two accounting methods for business combinations are allo...
Methods of Accounting for Business Combinations (contd.) <ul><li>Purchase method (purchase accounting):  </li></ul><ul><li...
Methods of Accounting for Business Combinations (contd.) <ul><li>Impact of these two accounting methods on the financial n...
Methods of Accounting for Business Combinations (contd.) <ul><li>Book Value:   </li></ul><ul><ul><li>the book value of the...
Purchase Accounting <ul><li>Cost of a Combinee including: </li></ul><ul><li>  1.the amount of consideration paid by   the ...
Cost of A Combinee (contd.) <ul><li>Direct out-of-pocket costs include legal fees, accounting fees, and finder’s fees.   <...
Cost of A Combinee (contd.) <ul><li>Cost of registering with the SEC and issuing  equity  securities are offset against th...
Accounting Treatment for Contingent Consideration <ul><li>a .Contingent consideration which is  determinable on the combin...
Accounting Treatment for Contingent Consideration(contd.) <ul><li>b .Contingent consideration that is not  determinable on...
Assigning Values to a Purchased Combinee’s Identifiable Assets and Liabilities (Based on APB Opinion No. 16) <ul><li>1.  P...
Assigning Values to a Purchased Combinee’s Identifiable Assets and Liabilities (Based on APB Opinion No. 16) (contd.) <ul>...
Goodwill Computation under Purchase Accounting <ul><li>Purchased Goodwill  </li></ul><ul><li>=purchase price (total cost o...
Goodwill Computation under Purchase Accounting (contd.) <ul><li>Negative Goodwill:   </li></ul><ul><li>The excess amount i...
Example I: Purchase Accounting For Statutory Merger, with Goodwill  <ul><li>On December 31,1999, Mason Company (the combin...
Example I: Purchase Accounting For Statutory Merger, with Goodwill (contd.) <ul><li>Saxon issued 150,000 shares of its $10...
Example I (contd.): Out of Pocket Costs 60,000 <ul><li>For SEC registration statement for </li></ul><ul><li>Saxon common s...
Example I (contd.): Out of Pocket Costs (contd.) <ul><li>There was no contingent consideration in the merger contract. </l...
Example I (contd.): Mason Company’s  Condensed B/S  Prior to The Merger <ul><li>MASON COMPANY (combinee) </li></ul><ul><li...
Example I (contd.): Mason Company’s Condensed B/S Prior to The Merger (contd.) <ul><li>MASON COMPANY  </li></ul><ul><li>Ba...
Example I (contd.): <ul><li>Using the guidelines in APB Opinion No. 16, “Business Combinations”, the board of directors of...
Example I (contd.): Fair Value of Identifiable Net Assets of Combinee (500,000) Current liabilities (950,000) Long-term de...
Example I (contd.): Combinor’s Journal Entries for Business Combination <ul><li>Saxon uses an investment ledger account to...
Example I (contd.): Combinor’s Journal Entries for Business Combination (contd.) <ul><li>Journal Entries for Saxon Corp. 1...
Example I (contd.): Combinor’s Journal Entries for  Business Combination (contd.) <ul><li>12/31/1999 (contd.) </li></ul>(C...
Example I (contd.): Combinor’s Journal Entries for Business Combination (contd.) <ul><li>12/31/1999 (contd.) </li></ul>11,...
Example I (contd.): Combinee’s J.E. for The Dissolution of the Company after Statutory Merger <ul><li>Mason Company (the c...
Example I (contd.): Combinee’s J.E. for The Dissolution of The Company after Statutory Merger (contd.) <ul><li>Journal Ent...
Example II: Purchase Accounting for Acquisition of Net Assets, with Negative Goodwill (Bargain-Purchase Excess) <ul><li>On...
Example II: Purchase Accounting with Negative Goodwill <ul><li>The condensed balance sheet statement of Fairmont Corp. pri...
Example II (contd.):Combinee’s B/S  Prior to Statutory Merger <ul><li>FAIRMONT CORPORATION (combinee) </li></ul><ul><li>Ba...
Example II (contd.):Combinee’s B/S  Prior to Statutory Merger (contd.) <ul><li>FAIRMONT CORPORATION B/S (contd.) </li></ul...
Example II (contd.) : Computing the  Negative Goodwill <ul><li>Thus, Davis acquired identifiable net assets with a current...
Example II (contd.) : Computing the  Negative Goodwill (contd.) <ul><li>The $60,000 excess of current fair value of the ne...
Example II (contd.) : Allocation of Negative Goodwill $60,000 Total excess of current fair    value of identifiable net   ...
Example II (contd.) <ul><li>Notes:  No part of the $60,000 bargain-purchase excess is allocated to current assets or to th...
Example II (contd.) : Combinor’s J.E. for The Acquisition of Net Assets <ul><li>Journal Entries of Davis Corp. 12/31/1999 ...
Example II (contd.) : Combinor’s J.E. for the Acquisition of Net Assets (contd.) <ul><li>12/31/1999 (contd.) </li></ul>440...
Example II (contd.): Note to the Journal Entries <ul><li>Note to the above journal entries: </li></ul><ul><li>To allocate ...
Pooling-of-Interests Accounting <ul><li>The idea behind this accounting method is that the business combination is simply ...
Pooling-of-Interests Accounting (contd.) <ul><li>Because neither party can be considered as the combinor (as previously de...
Pooling-of-Interests Accounting (contd.) <ul><li>Both the market value of the common stock issued for the combination and ...
Example III: Pooling-of-Interests Accounting for Statutory Merger <ul><li>Applying the pooling-of interests accounting met...
Example III : Pooling-of-Interests Accounting for Statutory Merger (contd.) <ul><li>Journal Entries for Saxon Corp. 12/31/...
Example III : Pooling-of-Interests Accounting for Statutory Merger (contd.) <ul><li>12/31/1999 (J. E. contd.) </li></ul>To...
Example III (contd.): Notes to the example <ul><li>Notes: </li></ul><ul><li>1.  An Investment in Mason’s Company Common St...
Example III (contd.): Notes to the example (contd.) <ul><li>Notes (contd.) </li></ul><ul><li>4. The Paid-in-Capital in Exc...
Example III (contd.): Notes to the example (contd.) <ul><li>Notes (contd.) </li></ul><ul><li>5. (contd.)If this account is...
Advantage of Using Pooling Accounting on Financial Numbers <ul><li>1.Advantage on the  Post-Merger  Earnings: </li></ul><u...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) (Continued) 200,000 600,000 3,000,000 1,000,000 Expens...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) 200,000 200,000 Cash 2,116,250 1,500,000 1,000,000 500...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>The difference on the net assets of these two ...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>The composition of the $716,250 is summarized ...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Assuming: </li></ul><ul><li>a.The $150,000 dif...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>b.The $400,000 difference in plant assets is a...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Based on the above information, Saxon’s pre-ta...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Thus, pooling accounting, in general, results ...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>2.Advantage on the Retained  Earnings </li></u...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>3.Advantage on the Price-Earnings Ratios on th...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) * Net of $200,000 expenses of business combination. + ...
Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Using the pooling method, Saxon would report t...
Historical Perspective of Accounting for Business Combinations <ul><li>Due to lack of accounting pronouncement in providin...
Historical Perspective of Accounting for Business Combinations (contd.) <ul><li>a substantial number of business combinati...
Historical Perspective of Accounting for Business Combinations (contd.) <ul><li>The pooling accounting was first sanctione...
Historical Perspective of Accounting for Business Combinations (contd.) <ul><li>ARB No. 40 was subsequently replaced by AR...
Past Abuses of Pooling Accounting <ul><li>The advantages of pooling accounting in post-merger earnings, retained earnings,...
Past Abuses of Pooling Accounting (contd.) <ul><li>Consequently, a substantial number of business combinations arranged in...
Past Abuses of Pooling Accounting (contd.) <ul><li>Among these abuses are: </li></ul><ul><li>a.  Retroactive Pooling </li>...
Past Abuses of Pooling Accounting (contd.) <ul><li>Contd.: </li></ul><ul><li>e.Issuance of Unusual Securities </li></ul><u...
Past Abuses of Purchase Accounting (in the period of 1950-1960) <ul><li>The most common abuses of purchase accounting is t...
Action by the AICPA to Curtail The Abuses <ul><li>The Accounting Principles Board reacted to the abuses by issuing APB opi...
Conditions Requiring Pooling Accounting in APB Opinion No. 16 <ul><li>  1.Attributes of the combining companies  (2 condit...
Conditions Requiring Pooling Accounting in APB Opinion No. 16) (contd.) <ul><li>2.Manner of combining ownership interests ...
Conditions Requiring Pooling Accounting in APB Opinion No. 16) (contd.) <ul><li>3.Absence of planned transactions (3 condi...
APB Opinion No. 16 <ul><li>A business combination that meets 12 conditions of APB of Opinion No.16 accounting for as a poo...
APB Opinion No. 16 (contd.) <ul><li>1.Attributes of the constituent companies  (2 conditions) </li></ul><ul><li>a.  Each o...
APB Opinion No. 16 (contd.) <ul><li>2.Manner of combining ownership interests (7 conditions) </li></ul><ul><li>b.  A corpo...
APB Opinion No. 16 (contd.) <ul><li>3.Absence of planned transactions (3 conditions) </li></ul><ul><li>a. The combined ent...
APB Opinion No. 16 (contd.) <ul><li>c.  The combined entity does not plan to sell  a significant part of the assets of the...
APB Opinion No. 16 (contd.) <ul><li>APB stated that both purchase and pooling methods are acceptable in accounting for bus...
Discussion of Four Conditions <ul><li>1.Independence of Constituent Companies </li></ul><ul><li>On the dates of initiation...
Discussion of Four Conditions (contd.) <ul><li>2.Substantially All Voting Common Stock of Combinee’s Company Are Exchanged...
Discussion of Four Conditions (contd.) <ul><li>1) Shares acquired before the initiation  date of combination and held by  ...
Discussion of Four Conditions (contd.) <ul><li>3) shares of the combinee still  outstanding on the date the  combination i...
discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests   <ul><...
  Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (cont...
  Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (cont...
  Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (cont...
  Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (cont...
  Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (cont...
  Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (cont...
Discussion of Four Conditions (contd.) <ul><li>3.Restrictions on Treasury Stock </li></ul><ul><li>  Only the treasury stoc...
Discussion of Four Conditions (contd.) <ul><li>4.No Pending Provisions </li></ul><ul><li>  No additional common stock can ...
Financial  Statements Following a Business Combination <ul><li>The assets, liabilities, and retained earnings in a balance...
Financial  Statements Following a Business Combination (contd.) <ul><li>The combined income statement following a business...
Financial  Statements Following a Business Combination (contd.) <ul><li>Pooling Accounting </li></ul><ul><li>The income st...
Financial  Statements Following a Business Combination (contd.) <ul><li>Comparative financial statements for preceding per...
  Financial  Statements Following a Business    Combination (contd.) Example IV: <ul><li>To illustrate, assume that the in...
Financial  Statements Following a Business    Combination (contd.) Example IV (contd.) <ul><li>SAXON CORPORATION AND MASON...
Financial  Statements Following a Business    Combination (contd.) Example IV (contd.) <ul><li>The working paper for the p...
Financial  Statements Following a Business    Combination (contd.) Example IV (contd.) <ul><li>SAXON CORPORATION </li></ul...
Notes to Financial  Statements Following a Business Combination  <ul><li>Extensive disclosure is required for business com...
Notes to Financial  Statements Following a Business Combination (contd.)   <ul><li>2.period for which combinee’s operating...
Notes to Financial  Statements Following a Business Combination (contd.) <ul><li>5.pro forma operating results for the  co...
Notes to Financial  Statements Following a Business Combination (contd.) <ul><li>Required Disclosure for  Pooling   Accoun...
Notes to Financial  Statements Following a Business Combination (contd.) <ul><li>2. number of shares of common stock issue...
Comparison of Purchase and Pooling Accounting <ul><li>The following table summarizes the principal aspects of purchase acc...
Comparison of Purchase and Pooling Accounting (contd.) (Continued) Combining of stockholder interests Acquisition of asset...
Comparison of Purchase and Pooling Accounting (contd.) (Continued) At carrying amount of combinee’s net assets (all out-of...
Comparison of Purchase and Pooling Accounting (contd.) (Continued) YES NO Retained earnings of constituent companies combi...
Comparison of Purchase and Pooling Accounting (contd.) (Continued) Both issuer’s and combinee’s net assets at carrying amo...
Comparison of Purchase and Pooling Accounting (contd.) Separately for constituent companies for period prior to combinatio...
Purchase-Type Statutory Consolidation  <ul><li>Due to a new corporation is formed to issue common stock to all constituent...
Purchase-Type Statutory Consolidation (contd.) Example V : <ul><li>To illustrate, assume the following balance sheet state...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>LAMSON CORPORATION AND DONALD COMPANY </li></ul...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>LAMSON CORPORATION AND DONALD COMPANY </li></ul...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>The current fair values of both companies’ liab...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>On December 31, 1999, in a statutory consolidat...
Purchase-Type Statutory Consolidation (contd.) Example V(contd.): $1,860,000 $2,580,000 Net assets’ current fair value 31,...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>Because the former stockholders of Lamson Corpo...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>Assuming that LamDon paid $200,000 out-of-pocke...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>Journal Entries of Lamdon Corp., 12/31/1999 </l...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>12/31/1999 (contd.) </li></ul>(Continued) 200,0...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>12/31/1999 (contd.) </li></ul>(Continued) 800,0...
Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>12/31/1999 (contd.) </li></ul>(1,800,000) Curre...
Subsequent Issuance of Contingent Consideration  <ul><li>Example of Contingent Consideration (p176 and p198 of text book) ...
Subsequent Issuance of Contingent Consideration  <ul><li>Example (contd.) These purchased net assets of Robinson will be i...
Subsequent Issuance of Contingent Consideration (contd.) <ul><li>(contd.) </li></ul><ul><li>2.Norton will pay Robinson 25%...
Subsequent Issuance of Contingent Consideration (contd.) <ul><li>Assuming that by 12/31/x2, the end of the first year foll...
Subsequent Issuance of Contingent Consideration (contd.) $50,000 =  20,000 + (580,000-500,000) x 25% =$30,000 * $100 x 300...
IAS 22, “Accounting for Business Combinations” <ul><li>International Accounting Standards Committee requires purchase acco...
The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) <ul><...
The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (cont...
The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (cont...
The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (cont...
The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (cont...
The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (cont...
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) <ul><li>Intangible assets have b...
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>APB Opinion No....
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>Statement No. 1...
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>Statement 142 p...
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>Disclosure requ...
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>b. The carrying...
Summary of Statement No. 142:  (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>FASB indicates ...
Upcoming SlideShare
Loading in...5
×

Business Combination

1,281

Published on

Published in: Business, Economy & Finance
0 Comments
0 Likes
Statistics
Notes
  • Be the first to comment

  • Be the first to like this

No Downloads
Views
Total Views
1,281
On Slideshare
0
From Embeds
0
Number of Embeds
0
Actions
Shares
0
Downloads
39
Comments
0
Likes
0
Embeds 0
No embeds

No notes for slide

Transcript of "Business Combination"

  1. 1. Chapter 5 Business Combinations
  2. 2. Objectives of the Chapter <ul><li>1. To discuss the general view of business combinations. </li></ul><ul><li>2. To learn accounting for business combinations (purchase versus pooling methods) on date of combination for statutory merger type of business combinations . </li></ul>
  3. 3. Objectives of the Chapter <ul><li>3 . To discuss the development of two alternatives for business combinations from a historical perspective. </li></ul><ul><li>4. Preparing financial statements following a business combination for statutory merger type of business combination. </li></ul>
  4. 4. Objectives of the Chapter <ul><li>5 . To learn accounting for statutory consolidation (using purchase method). </li></ul><ul><li>6. To discuss the current development on business combination standards. </li></ul>
  5. 5. Business Combinations <ul><li>Business combinations: events and transactions in which two or more business enterprises, or their net assets, are combined to be under the control of a single business entity. </li></ul>
  6. 6. Business Combinations (contd.) <ul><li>FASB’s terms for the business entities involved in the business combination: </li></ul><ul><li>a.Constituent companies : all business entities enter into a business combination. </li></ul><ul><li>b.Combined enterprise: the business entity that results from a business combination. </li></ul>
  7. 7. Business Combinations (contd.) <ul><li>c.Combinor : a constituent company whose owners end up to have control of the ownership interest of the combined enterprise. </li></ul><ul><li>d.Combinee : all other constituent companies other than the combinor in a business combination. </li></ul>
  8. 8. Types of Business Combinations <ul><li>Friendly takeovers </li></ul><ul><li>Hostile takeovers </li></ul>
  9. 9. Reasons for Business Combinations <ul><li>For the combination in a friendly takeover: </li></ul><ul><li>  a.Growth. </li></ul><ul><li>Through the business combinations, the product lines can be expanded and diversified. Also, the market shares can be enlarged. </li></ul>
  10. 10. Reasons for Business Combinations (contd.) <ul><li>b.Obtaining new management strength or better use of existing management. </li></ul><ul><li>c.For the income tax advantages </li></ul><ul><li>For hostile takeovers: Substantial gains may result from the sale of business segments of a combinee following the business combination. </li></ul>
  11. 11. Four Methods for Carrying Out Business Combinations <ul><li>1.Statutory Merger Procedures of statutory merger: </li></ul><ul><li>a. The board of directors of the constituent companies work out the terms of merger. </li></ul><ul><li>b. Stockholders of the constituent companies approve the terms of the merger. </li></ul>
  12. 12. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>c. the survivor issues its common stock or other consideration to stockholders of the other constituent companies to exchange for all their outstanding voting common shares. </li></ul><ul><li>d. The survivor dissolves and liquidates the other constituent companies. </li></ul>
  13. 13. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>2. Statutory Consolidation : a new corporation is formed to issue its common stock for the outstanding common stock of all constituent corporations. </li></ul><ul><li>Procedures of statutory consolidation: </li></ul><ul><li>a. similar to the statutory merger. </li></ul><ul><li>b. similar to the statutory merger. </li></ul>
  14. 14. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>c. a new corporation is formed to issue its common stock to the stockholders of all the constituent companies in exchanger for all their outstanding voting common stock. </li></ul><ul><li>d. the new corporation dissolves and liquidates the constituent companies. </li></ul>
  15. 15. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>3.Acquisition of Common Stock (a method for most of hostile takeovers) </li></ul><ul><li>Procedures: </li></ul><ul><li>a. the combinor received the approval from its board of directors to acquire common stock of the prospective target firm.  </li></ul>
  16. 16. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>b. acquiring target firm’s common stock in an open market, or through a tender offer to stockholders of a publicly owner corporation.   </li></ul>
  17. 17. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>c. When acquiring enough shares to have the controlling interest in the combinee’s voting common shares,the target firm becomes affiliated with the combinor (the parent company) as a subsidiary. </li></ul><ul><li>The target firm remains as a separate legal entity.   </li></ul>
  18. 18. Four Methods for Carrying Out Business Combinations (contd.) <ul><li>4. Acquisitions of Assets : </li></ul><ul><li>Business entity acquires all or most of net assets of the other entity (using cash, debt, stock ……..) </li></ul>
  19. 19. Establishing the Price for a Business Combination <ul><li>1. Capitalization of expected average annual earnings of the combinee at a desired rate of return. </li></ul><ul><li>2. Determination of current fair value of the combinee’s net assets (including goodwill). </li></ul>
  20. 20. Methods of Accounting for Business Combinations <ul><li>Pooling of Interest Accounting versus Purchase Accounting </li></ul><ul><li>Definitions: </li></ul><ul><ul><li>Accounting Acquisition Premium (AAP) = purchase price – book value of the combinee. </li></ul></ul>
  21. 21. Methods of Accounting for Business Combinations <ul><ul><li>Purchased Goodwill </li></ul></ul><ul><ul><li>= AAP – combinee’s assets step-up. </li></ul></ul><ul><ul><li>Assets step up </li></ul></ul><ul><ul><li>= the fair market value of net assets of the combinee – the book value of these net assets. </li></ul></ul>
  22. 22. Methods of Accounting for Business Combinations (contd.) <ul><li>Two accounting methods for business combinations are allowed under APB Opinion No. 16: </li></ul><ul><li>Pooling-of-interests method (pooling accounting) : </li></ul><ul><li>The acquired firm’s net assets are consolidated at their existing book value and any accounting acquisition premium (AAP) is ignored. </li></ul>
  23. 23. Methods of Accounting for Business Combinations (contd.) <ul><li>Purchase method (purchase accounting): </li></ul><ul><li>The acquired net assets are recorded at their fair market value and the excess of AAP over the assets step-up is recognized as goodwill. </li></ul><ul><li>  In order to adopt the pooling of interests method to account for the business combination, 12 conditions must be met (detailed later). </li></ul>
  24. 24. Methods of Accounting for Business Combinations (contd.) <ul><li>Impact of these two accounting methods on the financial numbers: </li></ul><ul><li>Earnings: </li></ul><ul><li>the depreciation associated with any assets step-up and the amortization of any purchased goodwill will result in purchase earnings, in general, to be less than pooling earnings (i.e., E purchase < E pooling ). </li></ul>
  25. 25. Methods of Accounting for Business Combinations (contd.) <ul><li>Book Value: </li></ul><ul><ul><li>the book value of the accounting consolidated net assets under pooling accounting will typically be less than those reported under purchase accounting (i.e., B pooling < B purchase ). </li></ul></ul>
  26. 26. Purchase Accounting <ul><li>Cost of a Combinee including: </li></ul><ul><li>  1.the amount of consideration paid by the combinor to a combinee. </li></ul><ul><li> 2.the combinor’s direct “out-of- pocket” costs of the combination, and </li></ul><ul><li> 3.contingent consideration which is determinable on the business combination date. </li></ul>
  27. 27. Cost of A Combinee (contd.) <ul><li>Direct out-of-pocket costs include legal fees, accounting fees, and finder’s fees. </li></ul><ul><li>Costs of registering with the SEC and issuing debt securities in a business combinations are debited to Bond Issue Costs. </li></ul>
  28. 28. Cost of A Combinee (contd.) <ul><li>Cost of registering with the SEC and issuing equity securities are offset against the proceeds from the issuance of the securities. </li></ul><ul><li>Contingent consideration: cash,other assets,or securities that may be issuable in the future. </li></ul>
  29. 29. Accounting Treatment for Contingent Consideration <ul><li>a .Contingent consideration which is determinable on the combination date: </li></ul><ul><li>recorded as part of the cost of the combination. </li></ul>
  30. 30. Accounting Treatment for Contingent Consideration(contd.) <ul><li>b .Contingent consideration that is not determinable on the combination date: </li></ul><ul><li>the contingent amount is recorded as goodwill when the contingency is resolved. </li></ul>
  31. 31. Assigning Values to a Purchased Combinee’s Identifiable Assets and Liabilities (Based on APB Opinion No. 16) <ul><li>1. Present value : receivables and liabilities; </li></ul><ul><li>2. Net realizable values : marketable securities, finished goods, goods in process inventories, plant assets held for sale or temporary use; </li></ul>
  32. 32. Assigning Values to a Purchased Combinee’s Identifiable Assets and Liabilities (Based on APB Opinion No. 16) (contd.) <ul><li>3. Appraised value : intangible assets, land, natural resources and nonmarketable securities; </li></ul><ul><li>4. Replacement cost : material and plant assets held for long-term use. </li></ul>
  33. 33. Goodwill Computation under Purchase Accounting <ul><li>Purchased Goodwill </li></ul><ul><li>=purchase price (total cost of the combinee) – </li></ul><ul><li>the current fair values of identifiable net assets of the combinee. </li></ul>
  34. 34. Goodwill Computation under Purchase Accounting (contd.) <ul><li>Negative Goodwill: </li></ul><ul><li>The excess amount is applied to reduce proportionally the amounts initially assigned to noncurrent assets (other than long-term investments.) </li></ul><ul><li>If this procedure does not extinguish the excess, a Negative Goodwill account would be credited for the remaining excess. </li></ul>
  35. 35. Example I: Purchase Accounting For Statutory Merger, with Goodwill <ul><li>On December 31,1999, Mason Company (the combinee) was merged into Saxon Corporation (the combinor or survivor). </li></ul><ul><li>Both companies used the same accounting principles for assets, liabilities, revenue, and expenses and both had a December 31 fiscal year. </li></ul>
  36. 36. Example I: Purchase Accounting For Statutory Merger, with Goodwill (contd.) <ul><li>Saxon issued 150,000 shares of its $10 par common stock (current fair value $25 a share) to Mason’s stockholders for all 100,000 issued and outstanding shares of Mason’s no-par, $10 stated value common stock. </li></ul><ul><li>In addition, Saxon paid the following out-of-pocket costs associated with business combination: </li></ul>
  37. 37. Example I (contd.): Out of Pocket Costs 60,000 <ul><li>For SEC registration statement for </li></ul><ul><li>Saxon common stock </li></ul>$ 5,000 <ul><li>For investigation of Mason </li></ul><ul><li>Company as prospective combinee </li></ul>Accounting fees: 50,000 <ul><li>For SEC registration statement for </li></ul><ul><li>Saxon common stock </li></ul>10,000 <ul><li>For the business combination </li></ul>Legal fees:
  38. 38. Example I (contd.): Out of Pocket Costs (contd.) <ul><li>There was no contingent consideration in the merger contract. </li></ul>$200,000 Total out-of-pocket costs of business combination 750 SEC registration statement fee 23,000 Printer’s charges for printing securities and SEC registration statement 51,250 Finder’s fee
  39. 39. Example I (contd.): Mason Company’s Condensed B/S Prior to The Merger <ul><li>MASON COMPANY (combinee) </li></ul><ul><li>Balance Sheet (prior to business combination) </li></ul><ul><li>December 31,1999 </li></ul>(Continued) Assets 4,600,000 Total assets 600,000 Other assets 3,000,000 Plant assets (net) $1,000,000 Current assets
  40. 40. Example I (contd.): Mason Company’s Condensed B/S Prior to The Merger (contd.) <ul><li>MASON COMPANY </li></ul><ul><li>Balance Sheet (contd.) , 12/31/1999 </li></ul>700,000 Additional paid-in capital 1,400,000 Retained earnings Liabilities & Stockholders’ Equity $4,600,000 Total liabilities & stockholders’ equity 1,000,000 Common stock, no-par,$10 stated value 1,000,000 Long-term debt $ 500,000 Current Liabilities
  41. 41. Example I (contd.): <ul><li>Using the guidelines in APB Opinion No. 16, “Business Combinations”, the board of directors of Saxon Corporation determined the current fair values of Mason Company’s identifiable assets and liabilities (identifiable net assets) as follows: </li></ul>
  42. 42. Example I (contd.): Fair Value of Identifiable Net Assets of Combinee (500,000) Current liabilities (950,000) Long-term debt (present value) $3,700,000 Identifiable net assets of combinee 600,000 Other assets 3,400,000 Plant assets $ 1,150,000 Current assets
  43. 43. Example I (contd.): Combinor’s Journal Entries for Business Combination <ul><li>Saxon uses an investment ledger account to accumulate the total cost of Mason Company prior to assigning the cost to identifiable net assets and goodwill. </li></ul>
  44. 44. Example I (contd.): Combinor’s Journal Entries for Business Combination (contd.) <ul><li>Journal Entries for Saxon Corp. 12/31/1999 </li></ul>(Continued) 3,750,000 To record merger with Mason Company as a purchase. 2,250,000 Paid-in Capital in Excess of Par 1,500,000 Common stock (150,000 x $10) Investment in Mason Company Common Stock (150,000 x $25)
  45. 45. Example I (contd.): Combinor’s Journal Entries for Business Combination (contd.) <ul><li>12/31/1999 (contd.) </li></ul>(Continued) 133,750 66,250 To record payment of out-of-pocket costs incurred in merger with Mason Company. 200,000 Cash Paid-in Capital in Excess of Par ($60,000+$50,000 + $23,000+750) Investment in Mason Company Common Stock ($5,000+$10,000+$51,250)
  46. 46. Example I (contd.): Combinor’s Journal Entries for Business Combination (contd.) <ul><li>12/31/1999 (contd.) </li></ul>11,500,000 Current Assets 3,400,000 Plant Assets 600,000 Other Assets 1,000,000 Long-Term Debt 3,816,250 Investment in Mason Company Common Stock ($3,750,000+$66,250) 116,250 50,000 To allocate total cost of liquidated Mason Company to identifiable assets and liabilities, with the reminder to goodwill. (Income tax effects are disregarded.) 500,000 Current Liabilities Goodwill Discount on Long-Term Debt
  47. 47. Example I (contd.): Combinee’s J.E. for The Dissolution of the Company after Statutory Merger <ul><li>Mason Company (the combinee) prepares the condensed journal entry below to record the dissolution and liquidation of the company on December 31, 1999. </li></ul>
  48. 48. Example I (contd.): Combinee’s J.E. for The Dissolution of The Company after Statutory Merger (contd.) <ul><li>Journal Entries for Mason Corp.12/31/1999 </li></ul>3,000,000 Plant Assets (net) 1,000,000 Current Assets 700,000 Paid-in Capital in Excess of Stated Value 1,400,000 Retained Earnings 1,000,000 1,000,000 500,000 600,000 Other Assets Common Stock , $10 stated value Long-Term Debt Current Liabilities
  49. 49. Example II: Purchase Accounting for Acquisition of Net Assets, with Negative Goodwill (Bargain-Purchase Excess) <ul><li>On December 31, 1999, Davis Corporation acquired the net assets of Fairmont Corporation directly from Fairmont Corp. for $400,000 cash, in a purchase-type business combination. </li></ul><ul><li>Davis paid legal fees of $40,000 in connection with the combination. </li></ul>
  50. 50. Example II: Purchase Accounting with Negative Goodwill <ul><li>The condensed balance sheet statement of Fairmont Corp. prior to the business combination, with related current fair value data, is presented below: </li></ul>
  51. 51. Example II (contd.):Combinee’s B/S Prior to Statutory Merger <ul><li>FAIRMONT CORPORATION (combinee) </li></ul><ul><li>Balance Sheet (prior to business combination) </li></ul><ul><li>December 31, 1999 </li></ul>(Continued) $1,200,000 90,000 870,000 50,000 $ 190,000 Carrying Amounts Current Fair Values Assets 60,000 Investment in marketable debt securities (held to maturity) $1,260,000 Total assets 100,000 Intangible assets (net) 900,000 Plant assets (net) $ 200,000 Current assets
  52. 52. Example II (contd.):Combinee’s B/S Prior to Statutory Merger (contd.) <ul><li>FAIRMONT CORPORATION B/S (contd.) </li></ul>$ 460,000 Total stockholders’ equity (140,000) Deficit $1,200,000 $ 600,000 $ 740,000 500,000 $ 240,000 Carrying Amounts Current Fair Values Liabilities and Stockholders’ Equity 520,000 Long-term debt Total liabilities & stockholders’ equity Common stock, $1 par $ 760,000 Total Liabilities $ 240,000 Current liabilities
  53. 53. Example II (contd.) : Computing the Negative Goodwill <ul><li>Thus, Davis acquired identifiable net assets with a current fair value of $ 500 ,000 a for a total cost of $440,000 b . </li></ul><ul><li>a. $ 1,260,000 - $760,000= $500,000 </li></ul><ul><li>b. $ 400,000 +$40,000= $440,000 </li></ul>
  54. 54. Example II (contd.) : Computing the Negative Goodwill (contd.) <ul><li>The $60,000 excess of current fair value of the net assets over their cost to Davis ($500,000 - $440,000 = $60,000) is prorated to the plant assets and intangible assets in the ratio of their respective current fair values, as follows: </li></ul>
  55. 55. Example II (contd.) : Allocation of Negative Goodwill $60,000 Total excess of current fair value of identifiable net assets over combinor’s cost =$6,000 To intangible assets: $60,000 x $900,000 ($900,000 +$100,000) = $54,000 To plant assets: $60,000 x $900,000 ($900,000 +$100,000)
  56. 56. Example II (contd.) <ul><li>Notes: No part of the $60,000 bargain-purchase excess is allocated to current assets or to the investment in marketable securities. </li></ul><ul><li>The journal entries on pages 54 and 55 record Davis Corporation’s acquisition of the net assets of Fairmont Corporation and payment of $40,000 legal fees: </li></ul>
  57. 57. Example II (contd.) : Combinor’s J.E. for The Acquisition of Net Assets <ul><li>Journal Entries of Davis Corp. 12/31/1999 </li></ul>(Continued) To record acquisition of net assets of Fairmont Corporation 400,000 Cash 400,000 Investment in Net Assets of Fairmont Corporation To record payment of legal fees incurred in acquisition of net assets of Fairmont Corporation 40,000 Cash 40,000 Investment in Net Assets of Fairmont Corporation
  58. 58. Example II (contd.) : Combinor’s J.E. for the Acquisition of Net Assets (contd.) <ul><li>12/31/1999 (contd.) </li></ul>440,000 Investment in Net Assets of Fairmont Corporation ($400,000 + $40,000) 500,000 Long-Term Debt 20,000 Premium on Long-Term Debt ($520,000 - $500,000) 240,000 Current Liabilities 94,000 Intangible Assets ($100,000 - $6,000) 846,000 Plant Assets ($900,000 - $54,000) 60,000 Investments in Marketable Debt Securities 200,000 Current Assets
  59. 59. Example II (contd.): Note to the Journal Entries <ul><li>Note to the above journal entries: </li></ul><ul><li>To allocate total cost of net assets acquired to identifiable net assets, with excess of current fair value of the net assets over their cost prorated to noncurrent assets other than investments in marketable debt securities. </li></ul>
  60. 60. Pooling-of-Interests Accounting <ul><li>The idea behind this accounting method is that the business combination is simply an exchange of common stock between an issuer and the stockholders of a combinee. </li></ul><ul><li>Thus, this method is appropriated to be used in the case of business combinations involving only common stock exchanges between companies of approximately equal size . </li></ul>
  61. 61. Pooling-of-Interests Accounting (contd.) <ul><li>Because neither party can be considered as the combinor (as previously defined), the combined assets, liabilities and retained earnings of the constituent companies are recorded at their carrying amounts. </li></ul>
  62. 62. Pooling-of-Interests Accounting (contd.) <ul><li>Both the market value of the common stock issued for the combination and the fair value of the combinee’s net assets are disregarded in this method. </li></ul><ul><li>The term “ issuer ” identifies the corporation that issues its common stock to accomplish the combination. </li></ul>
  63. 63. Example III: Pooling-of-Interests Accounting for Statutory Merger <ul><li>Applying the pooling-of interests accounting method on the Example I (the business combination of Saxon and Manson) illustrated on page 32-45, the following journal entries would be prepared in Saxon Corporation’s accounting records: </li></ul>
  64. 64. Example III : Pooling-of-Interests Accounting for Statutory Merger (contd.) <ul><li>Journal Entries for Saxon Corp. 12/31/1999 </li></ul>1,000,000 Current Assets 3,000,000 Plant Assets (net) 600,000 Other Assets 1,500,000 Common Stock, $10 par 200,000 Paid-in Capital in Excess of Par 1,400,000 Retained Earnings To record merger with Mason Company as a pooling of interests. 1,000,000 Long-term Debt 500,000 Current Liabilities
  65. 65. Example III : Pooling-of-Interests Accounting for Statutory Merger (contd.) <ul><li>12/31/1999 (J. E. contd.) </li></ul>To record payment of out-of-pocket costs incurred in merger with Mason Company 200,000 Cash 200,000 Expenses of Business Combination
  66. 66. Example III (contd.): Notes to the example <ul><li>Notes: </li></ul><ul><li>1. An Investment in Mason’s Company Common Stock account is not used in the pooling-of-interests method. </li></ul><ul><li>2. Mason’s assets, liabilities and retained earnings are recorded at their carrying amounts in Mason’s premerger balance sheet. </li></ul><ul><li>3. The common stock issued by Saxon for the business combination is recorded at par value . </li></ul>
  67. 67. Example III (contd.): Notes to the example (contd.) <ul><li>Notes (contd.) </li></ul><ul><li>4. The Paid-in-Capital in Excess of Par equals the total premerger paid-in-capital of Mason minus the par value of Saxon's stock issued for the business combination. </li></ul><ul><li>5. If the par value of Saxon’s common stock issued for the combination exceeds the premerger paid-in capital of Mason, Saxon’s Paid-in Capital in Excess of Par account should be debited for the excess amount. (contd.) </li></ul><ul><li>. </li></ul>
  68. 68. Example III (contd.): Notes to the example (contd.) <ul><li>Notes (contd.) </li></ul><ul><li>5. (contd.)If this account is not sufficient to absorb the excess amount, Saxon’s Retained Earnings account should be debited. </li></ul><ul><li>6. The entire out-of-pocket costs were expensed and are not tax deductible. </li></ul>
  69. 69. Advantage of Using Pooling Accounting on Financial Numbers <ul><li>1.Advantage on the Post-Merger Earnings: </li></ul><ul><li>The following exhibit shows the balance sheet statement accounts of pooling accounting versus purchase accounting using the example of Saxon and Mason: </li></ul>
  70. 70. Advantage of Using Pooling Accounting on Financial Numbers (contd.) (Continued) 200,000 600,000 3,000,000 1,000,000 Expense of Business Combination 116,250 Good will 50,000 Discount on Long-Term Debt 600,000 Other Assets 3,400,000 Plant Assets 1,150,000 Current Assets Pooling Accounting Purchase Accounting
  71. 71. Advantage of Using Pooling Accounting on Financial Numbers (contd.) 200,000 200,000 Cash 2,116,250 1,500,000 1,000,000 500,000 To record merger with Mason Company. 1,400,000 Retained Earnings 200,000 Paid-in Capital in Excess of Par 1,500,000 Common Stock, $ 10 par 1,000,000 Long-Term Debt 500,000 Current Liabilities Pooling Accounting Purchase Accounting
  72. 72. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>The difference on the net assets of these two methods is: </li></ul><ul><li>  </li></ul><ul><ul><li>Purchase accounting </li></ul></ul><ul><ul><li>net assets $3,616,250 </li></ul></ul><ul><ul><li>Pooling accounting </li></ul></ul><ul><ul><li>net assets 2,900,000 </li></ul></ul><ul><ul><li>Difference $ 716,250 </li></ul></ul>
  73. 73. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>The composition of the $716,250 is summarized as follows: </li></ul>$150,000 Current assets ($1,150,000-$1,000,000) 116,250 Goodwill 400,000 Plant assets ($3,400,000- $3,000,000) Excess of purchase asset values over pooling asset values: Excess of pooling liability values over purchase liability values: $716,250 Excess of purchase net assets values over pooling net assets values 50,000 Long-term debt [$1,000,000-($1,000,000- $50,000) ]
  74. 74. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Assuming: </li></ul><ul><li>a.The $150,000 difference in current assets is attributable to inventories which will be allocated to CGS on FIFO basis in the following year. </li></ul>
  75. 75. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>b.The $400,000 difference in plant assets is attributable to depreciable assets, and assuming an average economic life for these plant assets is 10 years. </li></ul><ul><li>c.Goodwill will be amortized in 40 years. </li></ul><ul><li>d.The long-term debt has a remaining 5 years to maturity. </li></ul>
  76. 76. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Based on the above information, Saxon’s pre-tax income for the year ended 12/31/2000 would be $202,906 less under purchase accounting than under pooling accounting. Calculation is as follows: </li></ul>$202,906 Excess of year 2000 pre-tax income under pooling accounting rather than under purchase accounting 40,000 Depreciation expense ($400,000 x 1/10) 10,000 Interest expense ($50,000 x 1/5) 2,960 Amortization expense ($116,250 x 1/40) $150,000 Cost of goods sold
  77. 77. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Thus, pooling accounting, in general, results in a more favorable post-merger earnings than the purchase accounting. As a result, it is preferred by mangers who would like to present a higher post-merger earnings. </li></ul>
  78. 78. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>2.Advantage on the Retained Earnings </li></ul><ul><li>The retained earnings under the pooling method is $1,400,000 greater than that of the purchase method. </li></ul><ul><li>This outcome also provides the managers with a greater flexibility in dividend distribution when using the pooling accounting. </li></ul>
  79. 79. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>3.Advantage on the Price-Earnings Ratios on the Merger Year </li></ul><ul><li>Assume Saxon and Mason had the following financial information prior to the business combination: </li></ul>
  80. 80. Advantage of Using Pooling Accounting on Financial Numbers (contd.) * Net of $200,000 expenses of business combination. + Outstanding during entire year. $3.75 $0.50 Basic earnings per share of common stock $30 $25 Market price per share On Dec. 31, 1999: 50 1,000,000+ $500,000* Saxon Corporation Mason Company $375,000 Net income 8 Price-earnings ratio 100,000+ Number of shares of common stock outstanding Year ended Dec. 31, 1999:
  81. 81. Advantage of Using Pooling Accounting on Financial Numbers (contd.) <ul><li>Using the pooling method, Saxon would report the combined enterprise’s net income as $875,000 for the year ended 12/31/1999 (as if these two companies were pooled as of 1/1/1999) and the EPS for Saxon would be increased from $0.50 to $0.76.   </li></ul><ul><li>Calculated as : $875,000/(1,000,000+150,000). </li></ul>
  82. 82. Historical Perspective of Accounting for Business Combinations <ul><li>Due to lack of accounting pronouncement in providing clear guidance in determining the appropriate method for business combination prior to the issuance of Accounting Principle Board Opinion No. 16 “Business Combinations” in August 1970 (effective for business combinations initiated after October 31, 1970), </li></ul>
  83. 83. Historical Perspective of Accounting for Business Combinations (contd.) <ul><li>a substantial number of business combinations arranged in the 1950s and 1960s were accounted for using pooling accounting despite the absence of the assumption for using pooling accounting . </li></ul>
  84. 84. Historical Perspective of Accounting for Business Combinations (contd.) <ul><li>The pooling accounting was first sanctioned by the AICPA in its Accounting Research Bulletin No. 40, “Business Combinations”. This pronouncement provides very little guidance for identifying the business combinations that qualified for pooling method. </li></ul>
  85. 85. Historical Perspective of Accounting for Business Combinations (contd.) <ul><li>ARB No. 40 was subsequently replaced by ARB No. 48, “Business Combinations” which continued to allow pooling method to be used for most business combinations involving an exchange of common stock. </li></ul>
  86. 86. Past Abuses of Pooling Accounting <ul><li>The advantages of pooling accounting in post-merger earnings, retained earnings, and in the P/E ratio of the merger year with the lack of clear guidelines for pooling in ARB No. 48 led to serious abuses of pooling method. </li></ul>
  87. 87. Past Abuses of Pooling Accounting (contd.) <ul><li>Consequently, a substantial number of business combinations arranged in the 1950s and 1960s were accounted for using pooling accounting despite the absence of the assumption for using pooling accounting – the combination of existing stockholders’ interests. </li></ul>
  88. 88. Past Abuses of Pooling Accounting (contd.) <ul><li>Among these abuses are: </li></ul><ul><li>a. Retroactive Pooling </li></ul><ul><li>b. Retrospective Pooling </li></ul><ul><li>c. Part-Pooling, Part-Purchase Accounting </li></ul><ul><li>d. Treasure Stock Issuance </li></ul>
  89. 89. Past Abuses of Pooling Accounting (contd.) <ul><li>Contd.: </li></ul><ul><li>e.Issuance of Unusual Securities </li></ul><ul><li>f. Creation of “instant Earnings” </li></ul><ul><li>g.Contingent Payouts </li></ul><ul><li>h.“Burying” the Costs of Pooling-Type Business Combinations </li></ul>
  90. 90. Past Abuses of Purchase Accounting (in the period of 1950-1960) <ul><li>The most common abuses of purchase accounting is the failure to allocate the cost of a combinee to the identifiable net assets acquired and to goodwill. </li></ul>
  91. 91. Action by the AICPA to Curtail The Abuses <ul><li>The Accounting Principles Board reacted to the abuses by issuing APB opinion No. 16 in which pooling accounting standards are tightened and the range of situations allowed for pooling accounting is substantially limited. </li></ul>
  92. 92. Conditions Requiring Pooling Accounting in APB Opinion No. 16 <ul><li>  1.Attributes of the combining companies (2 conditions). </li></ul><ul><li>  These conditions were to assure that the pooling combination was truly a combining of two or more entities whose common stockholder interests were previously independently of each other. </li></ul>
  93. 93. Conditions Requiring Pooling Accounting in APB Opinion No. 16) (contd.) <ul><li>2.Manner of combining ownership interests (7 conditions). </li></ul><ul><li>These conditions were to assure that the exchange of voting common stock actually took place in substance and in form. </li></ul>
  94. 94. Conditions Requiring Pooling Accounting in APB Opinion No. 16) (contd.) <ul><li>3.Absence of planned transactions (3 conditions). </li></ul><ul><li>These conditions were to assure that no planned transactions, which are inconsistent with the combining of entire existing interests of common stockholders, could be arranged prior to the combination. </li></ul>
  95. 95. APB Opinion No. 16 <ul><li>A business combination that meets 12 conditions of APB of Opinion No.16 accounting for as a pooling regardless of the legal form of the combination. </li></ul><ul><li>These conditions specified in APB Opinion No. 16 are:  </li></ul>
  96. 96. APB Opinion No. 16 (contd.) <ul><li>1.Attributes of the constituent companies (2 conditions) </li></ul><ul><li>a. Each of the constituent companies is autonomous and has not been a subsidiary or division of another corporation within two years before the plan of combination is initiated. </li></ul><ul><li>b. Each of the constituent companies is independent of the other. </li></ul>
  97. 97. APB Opinion No. 16 (contd.) <ul><li>2.Manner of combining ownership interests (7 conditions) </li></ul><ul><li>b. A corporation offers and issues only common stock with rights identical to those of the majority of its outstanding voting common stock in exchange for substantially all the voting common stock interest of another company on the date the plan of combination is consummated. </li></ul>
  98. 98. APB Opinion No. 16 (contd.) <ul><li>3.Absence of planned transactions (3 conditions) </li></ul><ul><li>a. The combined entity does not agree to retire or acquire all or part of the common stock issued to effect the combination. </li></ul><ul><li>b. The combined entity does not enter agreement for the benefit of the former stockholder of a constituent company. </li></ul>
  99. 99. APB Opinion No. 16 (contd.) <ul><li>c. The combined entity does not plan to sell a significant part of the assets of the constituent companies within two years after the combination. </li></ul>
  100. 100. APB Opinion No. 16 (contd.) <ul><li>APB stated that both purchase and pooling methods are acceptable in accounting for business combination, but not as alternatives in accounting for the same business combination. </li></ul><ul><li>By tightening the conditions for adopting pooling accounting, many previous abuse of pooling were eliminated or reduced. </li></ul>
  101. 101. Discussion of Four Conditions <ul><li>1.Independence of Constituent Companies </li></ul><ul><li>On the dates of initiation and consummation of a business combination, no constituent company may have more than 10% ownership of the outstanding voting common stock of another constituent company. </li></ul>
  102. 102. Discussion of Four Conditions (contd.) <ul><li>2.Substantially All Voting Common Stock of Combinee’s Company Are Exchanged </li></ul><ul><li>The condition requires that at least 90% of the combinee’s outstanding voting common stock be exchanged for the issuer’s voting common stock. </li></ul><ul><li>The following are excluded from the computation of the number of shares exchanged: </li></ul>
  103. 103. Discussion of Four Conditions (contd.) <ul><li>1) Shares acquired before the initiation date of combination and held by either the issuer or its subsidiaries. </li></ul><ul><li>2) Share acquired by either the issuer or its subsidiaries after the combination is initiated, other than in exchange for the issuer’s voting common stock. </li></ul>
  104. 104. Discussion of Four Conditions (contd.) <ul><li>3) shares of the combinee still outstanding on the date the combination is consummated. </li></ul><ul><li>4) any voting common stock of the issuer owner by the combinee before the business combination must be converted to equivalent shares of the combinee for the 90% test. </li></ul>
  105. 105. discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests   <ul><li>On March 13, 1999, Patton Corporation and Sherman Company initiated a plan of business combination. </li></ul><ul><li>Under the Plan, 1.5 shares of Patton’s voting common stock (1,000,000 shares issued and outstanding prior to March 13, 1999) were to be exchanged for each outstanding share of Sherman’s common stock (100,000 shares issued and 99,500 shares outstanding prior to March 13,1999). </li></ul>
  106. 106. Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (contd.)   <ul><li>At this time, Patton owned 7,500 shares of Sherman’s common stock, and Sherman owned 6,000 shares of Patton’s voting common stock; in addition, 500 shares of Sherman’s common stock were in Sherman’s treasury. </li></ul>
  107. 107. Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (contd.)   <ul><li>Neither Patton’s ownership of 7.54% of Sherman’s outstanding common stock (7,500/ 99,500 = 7.54%) nor Sherman’s ownership of 0.6% of Patton’s outstanding common stock (6,000/ 1,000,000 = 0.6%) exceeds the 10% limitation of the independence of constituent companies requirement. </li></ul>
  108. 108. Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (contd.)   <ul><li>On March 26, 1999, Patton acquired in the open market for cash 1,000 shares (1.005%) of Sherman’s outstanding common stock. </li></ul><ul><li>On June 30, 1999, Patton issued 136,500 shares of its voting common stock in exchange for 91,000 outstanding shares of Sherman’s common stock to complete the business combination. </li></ul>
  109. 109. Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (contd.)   <ul><li>Computation of the 90% requirement follows: </li></ul>(Continued) 1000 Sherman shares acquired by Patton for cash, Mar. 26, 1999 7500 Sherman shares owned by Patton Corporation, Mar. 13, 1999 Less: 99,500 Total Sherman shares outstanding, June 30, 1999 500 Less: Shares in Sherman’s treasury 100,000 Total Sherman Company shares issued, June 30, 1999
  110. 110. Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (contd.)   89,550 Application of 90% requirement (99,500 x 90%) 87,000 Effective number of Sherman shares acquired June 30, 1999 in exchange for Patton’s common stock 12,500 4,000 Equivalent number of Sherman shares represented by Patton’s common stock owned by Sherman, Mar. 13, 1999 (6,000÷ 1 ½)
  111. 111. Discussion of Four Conditions (contd.) Example to illustrate the independence and 90% of voting common stock tests (contd.)   <ul><li>Thus, the 91,000 shares of Sherman Company common stock actually exchanged on June 30, 1999, are in effect restated to 87,000 shares. Because the restated amount is less than 90% of Sherman’s 99,500 shares outstanding, the business combination does not qualify for pooling accounting. </li></ul>
  112. 112. Discussion of Four Conditions (contd.) <ul><li>3.Restrictions on Treasury Stock </li></ul><ul><li>  Only the treasury stock purchased under a systematic purchase plan (referred to as untainted treasury stock) can be accounted for as issuance of common stock in a pooling combination. </li></ul>
  113. 113. Discussion of Four Conditions (contd.) <ul><li>4.No Pending Provisions </li></ul><ul><li>  No additional common stock can be contingently issuable to former stockholders of a combinee after a combination has been initiated. </li></ul><ul><li>And, no common stock can be issued to an escrow agent pending the resolution of a contingency. </li></ul>
  114. 114. Financial Statements Following a Business Combination <ul><li>The assets, liabilities, and retained earnings in a balance sheet statement following a business combination are reported as follow: </li></ul>Reported Carrying amount Pooling- combinee Reported Carrying amount Pooling-combinor Not reported Fair value Purchase-combinee Reported Carrying amount Purchase-combinor Retained earnings Assets & Lia.
  115. 115. Financial Statements Following a Business Combination (contd.) <ul><li>The combined income statement following a business combination depends on the accounting method: </li></ul><ul><li>Purchase Accounting: </li></ul><ul><li>The income statement of the combined entity for the period in which the business combination occurred include the operating results of the combinee after the date of the combination only . </li></ul>
  116. 116. Financial Statements Following a Business Combination (contd.) <ul><li>Pooling Accounting </li></ul><ul><li>The income statement of the combined entity for the period in which the business combination occurred includes the results of operations of the constituent companies as though the combination had been completed at the beginning of the period regardless when the combination consummated. </li></ul>
  117. 117. Financial Statements Following a Business Combination (contd.) <ul><li>Comparative financial statements for preceding periods are restated for comparative purposes. </li></ul><ul><li>Intercompany transactions prior to the combination must be eliminated from the combined income statements in a manner comparable with that described in Chapter 4 for branches. </li></ul>
  118. 118. Financial Statements Following a Business Combination (contd.) Example IV: <ul><li>To illustrate, assume that the income statements of Saxon Corporation and Mason Company for the year ended December 31, 1999 (prior to completion of their pooling-type merger described on page 60-65 example III), were as shown below. </li></ul><ul><li>Assume also that Mason’s interest expense includes $25,000 paid to Saxon on a loan that was repaid prior to December 31, 1999, and that Saxon’s revenue includes $25,000 interest received from Mason. </li></ul>
  119. 119. Financial Statements Following a Business Combination (contd.) Example IV (contd.) <ul><li>SAXON CORPORATION AND MASON COMPANY </li></ul><ul><li>Separate Income Statements </li></ul><ul><li>For Year Ended December 31, 1999 </li></ul>*Includes $200,000 expenses of business combination. $ 375,000 $ 500,000 Net income 250,000 466,667 Income taxes expense $3,000,000 $ 7,000,000 Costs of goods sold $4,625,000 $ 9,500,000 Total costs and expenses 1,274,500 1,883,333* Operating expenses 150,000 $10,000,000 Saxon Corporation Mason Company Costs and expenses: 100,500 Interest expense $5,000,000 Sales and other revenue
  120. 120. Financial Statements Following a Business Combination (contd.) Example IV (contd.) <ul><li>The working paper for the postmerger income statement of Saxon Corporation under pooling accounting is illustrated below. </li></ul><ul><li>The amounts in the Combined column are reported in Saxon’s published postmerger income statement for the year ended December 31,1999. </li></ul>
  121. 121. Financial Statements Following a Business Combination (contd.) Example IV (contd.) <ul><li>SAXON CORPORATION </li></ul><ul><li>Working Paper for Combined Income Statement (Pooling of Interests) </li></ul><ul><li>For Year Ended December 31, 1999 </li></ul><ul><li>To eliminate intercompany interest received by Saxon Corporation from Mason </li></ul><ul><li>Company. </li></ul>3,157,833 1,274,500 1,883,333 Operating expenses 225,500 (a) (25,000) 100,500 150,000 Interest expense 716,667 250,000 466,667 Income taxes expense 14,100,000 (25,000) 4,625,000 9,500,000 Total costs and expenses Combined Eliminations Mason Company Saxon Corporation 875,000 -0- 375,000 500,000 Net income 10,000,000 3,000,000 7,000,000 Cost of goods sold Cost and expenses: 14,975,000 (a) 25,000 5,000,000 10,000,000 Sales and other revenue
  122. 122. Notes to Financial Statements Following a Business Combination <ul><li>Extensive disclosure is required for business combinations in the period they occur. </li></ul><ul><li>Required Disclosure for Purchase Accounting: (textbook p194) </li></ul><ul><li>1. Name and brief description of the combinee; also the accounting method used for the business combination; </li></ul>
  123. 123. Notes to Financial Statements Following a Business Combination (contd.) <ul><li>2.period for which combinee’s operating results are included in the income statement of the combined enterprise; </li></ul><ul><li>3.cost of the combinee, including number of shares and value per share of common stock issued and nature of and accounting treatment for contingent consideration; </li></ul><ul><li>4. amortization policy for goodwill; </li></ul>
  124. 124. Notes to Financial Statements Following a Business Combination (contd.) <ul><li>5.pro forma operating results for the combined enterprise for the current and preceding accounting periods as if the combination had occurred at the beginning of the preceding period. </li></ul><ul><li>Note: The FASB waived the proforma disclosures for nonpublic enterprises. </li></ul>
  125. 125. Notes to Financial Statements Following a Business Combination (contd.) <ul><li>Required Disclosure for Pooling Accounting   </li></ul><ul><li>1. Name and brief description of the combinee; the accounting method used for the business combination; </li></ul>
  126. 126. Notes to Financial Statements Following a Business Combination (contd.) <ul><li>2. number of shares of common stock issued in the combination; </li></ul><ul><li>3. separate operating results of the constituent companies for the period prior to the combination that were included in the operating results of the combined entity for the combination year. </li></ul>
  127. 127. Comparison of Purchase and Pooling Accounting <ul><li>The following table summarizes the principal aspects of purchase accounting and pooling-of-interests accounting for business combinations: </li></ul>
  128. 128. Comparison of Purchase and Pooling Accounting (contd.) (Continued) Combining of stockholder interests Acquisition of assets Underlying premise Combinations meeting all 12 criteria for pooling accounting Combinations not meeting all 12 criteria for pooling accounting Applicability Pooling-of-Interests Accounting Purchase Accounting Aspect
  129. 129. Comparison of Purchase and Pooling Accounting (contd.) (Continued) At carrying amount of combinee’s net assets (all out-of-pocket costs are recognized as expenses of the issuer) At cost, including amount of consideration, direct out-of-pocket costs, and determinable contingent consideration Accounting recognition of investment in combinee At carrying amounts on date of combination At current fair values on date of combination Valuation of combinee’s net assets in combined enterprise Pooling-of-Interests Accounting Purchase Accounting Aspect
  130. 130. Comparison of Purchase and Pooling Accounting (contd.) (Continued) YES NO Retained earnings of constituent companies combined on date of business combination No Yes, if combinor’s cost exceeds current fair value of combinee’s identifiable net assets Goodwill recognition Pooling-of-Interests Accounting Purchase Accounting Aspect
  131. 131. Comparison of Purchase and Pooling Accounting (contd.) (Continued) Both issuer’s and combinee’s net assets at carrying amount Combinor’s net assets at carrying amount; combinee’s net assets at current fair value Balance sheet Financial statements and notes for period of business combination: Pooling-of-Interests Accounting Purchase Accounting Aspect
  132. 132. Comparison of Purchase and Pooling Accounting (contd.) Separately for constituent companies for period prior to combination Pro forma for combined enterprise for current and preceding period as though combination took place at beginning of preceding period Disclosure of operations in notes Both issuer’s and combinee’s operations for entire period as though combination took place at beginning of period; prior periods restated comparably Combinor’s operations for entire period; combinee’s operations from date of combination to end of period Income statement Pooling-of-Interests Accounting Purchase Accounting Aspect
  133. 133. Purchase-Type Statutory Consolidation <ul><li>Due to a new corporation is formed to issue common stock to all constituent companies in this type of business combination, a combinor needs to be identified for the accounting treatment. </li></ul><ul><li>The assets and liabilities of the identified combinor will be accounted for by the new corporation at the carrying amount while those of the combinee will be accounted for at the fair value. </li></ul>
  134. 134. Purchase-Type Statutory Consolidation (contd.) Example V : <ul><li>To illustrate, assume the following balance sheet statements of the constituent companies involved in a purchase-type statutory consolidation on December 31, 1999 (p196-199 of textbook): </li></ul>
  135. 135. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>LAMSON CORPORATION AND DONALD COMPANY </li></ul><ul><li>Separate Balance Sheets (prior to business combination) </li></ul><ul><li>December 31,1999 </li></ul>(Continued) $ 2,800,000 400,000 1,800,000 $ 600,000 Lamson Corporation Donald Company Assets $1,9,00,000 Total assets 300,000 Other assets (net) 1,200,000 Plant assets (net) $ 400,000 Current assets
  136. 136. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>LAMSON CORPORATION AND DONALD COMPANY </li></ul><ul><li>Separate Balance Sheets (contd.), 12/31/1999 </li></ul>400,000 300,000 Additional paid-in capital 380,000 1,170,000 Retained earnings $ 2,800,000 430,000 500,000 $ 400,000 Lamson Corporation Donald Company Liabilities & Stockholders’ Equity $1,9,00,000 Total liabilities & stockholders’ equity 620,000 Common stock,$10 par 200,000 Long-term debt $ 300,000 Current liabilities
  137. 137. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>The current fair values of both companies’ liabilities were equal to carrying amounts. </li></ul><ul><li>Current fair values of identifiable assets, were as follows for Lamson and Donald, respectively: current assets, $800,000 and $500,000; plant assets, $2,000,000 and $1,400,000; other assets, $500,000 and $400,000. </li></ul>
  138. 138. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>On December 31, 1999, in a statutory consolidation approved by shareholders of both constituent companies, a new corporation, LamDon Corporation, issued 74,000 shares of no-par, no-stated-value common stock with an agreed value of $60 a share, based on the following valuations assigned by the negotiating directors to the two constituent companies’ identifiable net assets and goodwill: </li></ul>
  139. 139. Purchase-Type Statutory Consolidation (contd.) Example V(contd.): $1,860,000 $2,580,000 Net assets’ current fair value 31,000 43,000 Number of shares of LamDon common stock to be issued to constituent companies’ stockholders, at $60 a share agreed value 60,000 180,000 Goodwill $1,800,000 Donald: $500,000+ $1,400,000 + $400,000 -$300,000-$200,000 $2,400,000 Lamson: $800,000+$2,000,000 +$500,000- $400,000-$500,000 Current fair value of identifiable net assets: Donald Company Lamson Corporation
  140. 140. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>Because the former stockholders of Lamson Corporation receive the larger interest in the common stock of LamDon Corporation (43/74, or 58%), Lamson is the combinor in the purchase-type statutory consolidation business combination. </li></ul>
  141. 141. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>Assuming that LamDon paid $200,000 out-of-pocket costs of the consolidation after it was consummated on December 31, 1999, LamDon’s journal entries would be as follows: </li></ul>
  142. 142. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>Journal Entries of Lamdon Corp., 12/31/1999 </li></ul>(Continued) To record consolidation of Lamson Corporation and Donald Company as a purchase 4,440,000 Common Stock, no par 4,440,000 Investment in Lamson Corporation and Donald Company Common Stock (74,000 x $60)
  143. 143. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>12/31/1999 (contd.) </li></ul>(Continued) 200,000 Cash To record payment of costs incurred in consolidation of Lamson Corporation and Donald Company. Accounting, legal, and finder’s fees in connection with the consolidation are recorded as investment cost; other out-of-pocket costs are recorded as a reduction in the proceeds received from the issuance of common stock. 90,000 Common Stock, no par 110,000 Investment in Lamson Corporation and Donald Company Common Stock
  144. 144. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>12/31/1999 (contd.) </li></ul>(Continued) 800,000 850,000 Goodwill 700,000 Current Liabilities Other Assets ($400,000+$400,000) 1,100,000 Current Assets ($600,000+$500,000) 700,000 Long-Term Debt 4,550,000 Investment in Lamson Corporation and Donald Company Common Stock 3,200,000 Plant Assets ($1,800,000+$1,400,000)
  145. 145. Purchase-Type Statutory Consolidation (contd.) Example V (contd.): <ul><li>12/31/1999 (contd.) </li></ul>(1,800,000) Current fair fair value of Donald’s identifiable net assets 4,550,000 Amount of goodwill is computed as follows: Total cost of investment ($4,400,000+$110,00) $ 850,000 Amount of goodwill (1,900,000) Less: Carrying amount of Lamson’s identifiable net assets ($430,000+ $300,000+1,170,000)
  146. 146. Subsequent Issuance of Contingent Consideration <ul><li>Example of Contingent Consideration (p176 and p198 of text book) </li></ul><ul><li>Norton Company agrees to pay $800,000 cash for Robinson’s net assets (not including Robinson’s slow-moving products which have been written down to scrap value by Robinson prior to the business combination). </li></ul>
  147. 147. Subsequent Issuance of Contingent Consideration <ul><li>Example (contd.) These purchased net assets of Robinson will be included in the Rob Division of Norton Company. </li></ul><ul><li>In addition, the following contingent consideration was included in the contract: </li></ul><ul><li>1. Norton will pay Robinson $100 a unit for all sales by Robb Division of the slow-moving product. </li></ul>
  148. 148. Subsequent Issuance of Contingent Consideration (contd.) <ul><li>(contd.) </li></ul><ul><li>2.Norton will pay Robinson 25% of any pre-tax financial income in excess of $500,000 (excluding income from sale of the slow-moving product) of Robb Division for each of the four years subsequent to the business combination. </li></ul>
  149. 149. Subsequent Issuance of Contingent Consideration (contd.) <ul><li>Assuming that by 12/31/x2, the end of the first year following Norton’s acquisition of the net assets, another 300 units of the slow-moving product had been sold, and Norton’s Rob Division had pre-tax income of $580,000 (excluding the sale of the slow-moving product). </li></ul><ul><li>On 12/31/x2, Norton prepares the following journal entry to record the resolution of contingent consideration: </li></ul>
  150. 150. Subsequent Issuance of Contingent Consideration (contd.) $50,000 = 20,000 + (580,000-500,000) x 25% =$30,000 * $100 x 300 50,000 Cash (or payable to Robinson Company) 50,000* Goodwill
  151. 151. IAS 22, “Accounting for Business Combinations” <ul><li>International Accounting Standards Committee requires purchase accounting to be used for all business combinations except for united-of-interests –type combinations. </li></ul>
  152. 152. The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) <ul><li>On July 20, 2001, FASB issued Statement No. 141, Business Combinations and Statement No. 142, Goodwill and Other Intangible Assets. </li></ul>
  153. 153. The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (contd.) <ul><li>Statement 141: </li></ul><ul><li>Use of the pooling-of-interests method is not permitted. All business combinations should be accounted for using the purchase method. This statement is effective for business combinations initiated after June 30, 2001. </li></ul>
  154. 154. The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (contd.) <ul><li>Statement 142: </li></ul><ul><li>  Requires that goodwill no longer to be amortized as expense but subject to annual review for impairment. </li></ul>
  155. 155. The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (contd.) <ul><li>Reasons of issuing SFAS No. 141: (Source: summary of SAFS No. 141 published by the FASB): </li></ul><ul><li>Due to the 12 criteria for pooling accounting failed to distinguish economically dissimilar transactions, similar business combinations were accounted for using different accounting methods. </li></ul>
  156. 156. The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (contd.) <ul><li>Therefore, different financial statements were produced for similar business combinations. </li></ul><ul><li>The following are some of the reasons stated by the FASB: </li></ul>
  157. 157. The Current Development on the Business Combination Standards (Excerpts from News Release of the FASB dated 7/20/01) (contd.) <ul><li>1.Lack of Comparability on the financial statements when different method is adopted. </li></ul><ul><li>2.Criticism on the amortization of goodwill when purchase method is used. </li></ul><ul><li>3.Criticism from mangers on the impact of these two methods on the competition in markets for mergers and acquisitions. </li></ul>
  158. 158. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) <ul><li>Intangible assets have become an important economic resource for many entities. </li></ul><ul><li>Thus, better information for the intangible assets is needed. </li></ul><ul><li>Some empirical studies indicate that the goodwill amortization expense is not reflected in firm value </li></ul>
  159. 159. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>APB Opinion No. 17 assumed that goodwill and all other intangible assets were assets with finite lives and thus should be amortized, not to exceed 40 years. </li></ul>
  160. 160. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>Statement No. 142 assumed that goodwill and other intangible assets have indefinite lives and will not be amortized but rather will be tested on annual basis for impairment. </li></ul><ul><li>Intangible assets that have finite useful lives will continue to be amortized over their useful lives, but without the arbitrary ceiling of 40 years. </li></ul>
  161. 161. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>Statement 142 provides guidance for the two-step process of review of the potential impairment: </li></ul><ul><li>Consequence of SFAS No. 142: </li></ul><ul><li>Earnings may be more volatile due to the impairment losses are likely to occur irregularly and in varying amounts. </li></ul>
  162. 162. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>Disclosure requirements of Statement 142: </li></ul><ul><li>a. Information about the changes in the carrying amount of goodwill from period to period (in the aggregate and by reportable segment); </li></ul>
  163. 163. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>b. The carrying amount of intangible assets by major intangible asset class for those assets subject to amortization and for those not subject to amortization; </li></ul><ul><li>c. The estimated intangible assets amortization expense for the next five years. </li></ul>
  164. 164. Summary of Statement No. 142: (source: FASB Publication of Summary of Statement No. 142) (contd.) <ul><li>FASB indicates that this statement can improve the financial reporting on these assets (goodwill and other intangible assets) because this treatment will result values of these assets better reflect the underlying economic values of these assets. </li></ul>
  1. A particular slide catching your eye?

    Clipping is a handy way to collect important slides you want to go back to later.

×