pwc - mergers and acqusitions - snapshot - asset vs business

7/28/2019 PWC - Mergers and Acqusitions - Snapshot - Asset vs Business

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M&A snapshot

Mergers & acquisitions a snapshotChange the way you think abouttomorrows deals

Stay ahead of the accounting and reporting standards for M&A1

Did I buy a group of assets or a business?Why should I care?

Determining whether an acquired group of assets is a business has proven tobe one of the more challenging aspects of applying the current M&Aaccounting guidance. For many transactions, the determination will bestraightforward. However, the current guidance will cause many transactionsthat are "on the edge," and previously would have been accounted for as asset

acquisitions, to be accounted for as business combinations. Why is thisdetermination important? While the measurement of assets and liabilities in

both types of transactions will yield similar results, several differences canarise that can have a significant impact on a company's earnings, financialratios, and business metrics.

This edition ofMergers & acquisitionsa snapshot, identifies relevantconsiderations in determining whether a business has been acquired and whyit matters not only upon acquisition but also for disposals and public companyreporting.

1Accounting Standards Codification 805 is the US standard on M&A, and Accounting Standards

Codification 810 is the US standard on noncontrolling interests.

December 14, 2011

What's inside

Why does it matter?

What is a business?

Industry-specificconsiderations

Disposal transactions

Public company reporting

Conclusion


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M&A snapshot 2

Why does it matter?

Determining whether a business has been acquired has farreaching business and accounting implications. Toillustrate, the table below outlines some of the key areas

where the accounting treatment can differ.

Area Businesscombination

Asset acquisition

Measurement of assetsand liabilities

Fair value Allocate purchaseconsideration basedon relative fair values

Transaction costs Expense Capitalize

Contingentconsideration

Generally record at fairvalue; mark to marketthrough P&L post-close if a liability

Generally record whenprobable andreasonably estimable

IPR&D Capitalize as anindefinite lived assetuntil project completedor abandoned

Expense assuming noalternative future use

Goodwill Recognize asstandalone asset

Cannot be recognized

Acquiredcontingencies

Recognize at fair valueif determinable;otherwise, whenprobable andreasonably estimable

Generally record whenprobable andreasonably estimable

Assembled workforce Subsumed withingoodwill

Recognize asstandalone asset

What is a business?

The M&A standards contain a definition of a business thacan result in a broad range of transactions qualifying as

business acquisitions. A business is an integrated set ofassets and activities capable of being managed to providereturn to its owners. Businesses consist ofassets/resources, and systems, standards, or protocolsapplied to those assets/resources, that have the ability tocreate economic benefits, such as revenues or lower costs

In many transactions, the asset or business determinatiowill be straightforward. For example, the acquisition of aoperating company active in the marketplace will qualifyas a business, whereas the purchase of a single machine

will be accounted for as an asset acquisition.

However, in other instances, this assessment can become

more complex and judgmental. In making thisdetermination, it is important to: 1) identify the elementsin the acquired group (i.e., the assets purchased andprocesses transferred); 2) assess the capability of thoseelements to generate economic benefits; and 3) assess thimpact of any missing elements on a market participant'sability to generate economic benefits. The table belowoutlines some factors that may distinguish businesscombinations from asset acquisitions.

Business combination Asset acquisition

Key business processes acquired No processes acquired or onlyadministrative processes acquired

A market participant couldmanage the assets to provide areturn to its owners

A market participant could notmanage the assets to provide areturn to its owners withoutcombining them with other assets

Key elements are missing but canbe easily replicated or obtained

Key elements are missing andcannot be easily replicated orobtained

Key employees hired No employees hired

Able to produce "Day 1" outputs Not able to create economicbenefits

Presence of liabilities and/orgoodwill

No goodwill present


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M&A snapshot 4

Outsourcing arrangements are common in the technologyindustry because they allow companies to lower their fixedcosts. An example illustrating the application of thisguidance to an outsourcing arrangement is presented

below.

Example 3 outsourcing arrangement

Facts:Company O is in the business of providinginformation technology outsourcing services. It offers toprovide services to Firm P under a 20 year agreement. Aspart of the agreement, Company O acquires a building,computer equipment, and certain intellectual property("IP") held by Firm P. While all employees of Firm P

working in this area have been hired by Company O in thetransaction, Company O plans to initiate a restructuring,

which will eliminate headcount and improve efficiency.

Analysis:In the past, this arrangement may have beentreated as an executory contract. Now,it is likely a

business has been acquired. Company O acquired assets(building, computer equipment, IP) andsystems/protocols (computer systems, knowledgeresident in employees). Further, the acquired group iscapable of providing a return to its owners.

Pharmaceutical & life sciences industry

Similar to the technology sector, IPR&D and contingent

consideration arrangements can constitute a significantportion of a transaction in the pharmaceutical and lifesciences industry. Some relevant factors to consider indetermining whether a business has been acquired includethe stage of development of any drug compounds acquiredand any processes attached to the acquired assets. In mostcases, there are likely to be more processes associated withlater stage drug compounds than those in earlier stages. Inaddition, certain licensing arrangements, such as some

worldwide perpetual licenses in which employees,processes, or other assets have been acquired, may be

business acquisitions.

The following example illustrates the application of thisguidance in the pharmaceutical industry.

Disposal transactionsThe business versus asset determination is also relevantfor disposal transactions. A key difference between anasset sale and a business sale is that in the latter casegoodwill needs to be allocated to the business sold. Thisallocation could have a significant impact on the gain orloss recognized from the sale. Allocation of goodwill to th

business sold would also trigger the need for animpairment assessment of the remaining goodwill in thereporting unit.

The following example highlights these considerations foa disposal transaction.

Example 4 acquisition of research anddevelopment company

Facts: Development Inc. owns the right to severalproduct (drug compound) candidates. Its only activitiesconsist of research and development that is beingperformed on the product candidates. Development Incemploys management and administrative personnel as

well as scientists that are vital to performing the R&D.Big Pharma Co. acquires the rights to certain of theproduct candidates as well as testing and developmentequipment from Development Inc. Big Pharma Co. alsohires the scientists formerly employed by DevelopmentInc. who are developing the acquired candidates.

Analysis: This transaction would likely have beenaccounted for as an asset acquisition in the past

(acquisition of a pre-revenue development company).However, under the current guidance, it is likely a

business has been acquired. Big Pharma acquired assets(product candidates, testing, and developmentequipment) and the operating protocols and proceduresestablished by the scientists. While Big Pharma Co. didnot acquire a manufacturing facility or a sales force, itdetermined that the likely market participants are otherlarge pharmaceutical companies that already have theseitems or could easily replicate them.


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M&A snapshot 5

Public company reporting

For public companies, the asset versus businessdetermination can also impact SEC reportingrequirements. While the SEC's rules are different from theM&A rules, what constitutes a business will, for the mostpart, be the same for both. Specifically, the SEC rulesrequire financial statements for acquired businesses thatare considered significant. In contrast, there is no suchrequirement for asset acquisitions.

In summary

There are no "bright lines" that can be used in determininwhether a business has been acquired. Often times, this

determination is judgmental and can have a significantimpact on a buyer's financial reporting. Making these

judgments will not be easy but buyers will want to avoidpost-deal "surprises" by addressing this issue early in thedeal process.

For more information on this publication please contactone of the following individuals:

John GlynnValuation Services Leader(646) 471-8420

[email protected]

Henri LevequeAccounting Advisory Services Leader(678) [email protected]

Principal authors:

Lawrence N. DodykUS Business Combinations Leader(973) [email protected]

Kevin McManusAssurance Senior Manager(704) [email protected]

John VanosdallNational Professional Services Group Director(973) 236-4030

[email protected]

Example 5 disposal of a plant

Facts:Company V is a diversified manufacturingcompany that has a widget reporting unit. The widgetreporting unit comprises two plants - one that sourcesUS subsidiaries and one that sources Europeansubsidiaries. Company V decides to sell the plant inEurope for $2,000. Financial information for the widgetreporting unit and its two plants prior to the disposal isprovided in the table below.

US Europe Total

Fair value $3,000 $2,000 $5,000

Net assets(excludinggoodwill)

$1,500 $1,000 $2,500

Goodwill $500

Total bookvalue

$3,000

Analysis:The plant in Europe likely qualifies as abusiness because it has tangible and intangible assetsand processes, such as manufacturing protocols andknowledgeable employees. The plant is also currentlyproducing widgets. Company V would allocate a portionof the total widget reporting unit goodwill upon disposal

based on the relative fair values of the US and Europeanplants. This results in an allocation of 40%

($2,000/$5,000) of the total widget reporting unitgoodwill to the European plant, or $200. As a result, the

book value of the European plant is $1,200 andCompany V will record a gain of $800 based on a salesprice of $2,000. Absent the allocation of goodwill to theEuropean plant, Company V would have recorded a gainof $1,000. In addition, Company V will test theremaining amount of goodwill for impairment.
mailto:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]


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PwC has developed the following publications related tobusiness combinations and noncontrolling interests,covering topics relevant to a broad range of constituents.

10Minutes on Mergers and Acquisitionsfor chief

executive officers and board membersWhat You Need to Know about the New Accounting

Standards Affecting M&A Dealsfor senior executives

and deal makers

Mergers & acquisitionsa snapshota series of

publications for senior executives and deal makers on

emerging M&A financial reporting issues

Business Combinations and Consolidationsthe new

accounting standardsan executive brochure on the

new accounting standards

A Global Guide to Accounting for Business

Combinations and Noncontrolling Interests: Application

of U.S. GAAP and IFRS Standardsfor accounting

professionals and deal makers

Dataline 2008-01: FAS 141(R), Business

Combinationsfor accounting professionals and deal

makers

Dataline 2008-02: FAS 160, Noncontrolling Interests in

Consolidated Financial Statementsfor accounting


Dataline 2008-30: Key Considerations for

Implementing FAS 141(R) and FAS 160for accounting


Dataline 2008-35: Nonfinancial Asset Impairment

Considerationsfor accounting professionals and deal

makers

Dataline 2009-08: Revisions to EITF Topic D-98,

Classification and Measurement of Redeemable

Securitiesfor accounting professionals and deal

makers

Dataline 2009-16: New Guidance for Acquired

Contingenciesfor accounting professionals and deal

makers

Dataline 2009-34: Accounting for Contingent

Consideration Issued in a Business Combinationfor

accounting professionals and deal makers

Dataline 2011-20: Goodwill ImpairmentFASB

proposes changes to impairment test

for accountingprofessionals and deal makers

Dataline 2011-28: FASB issues guidance that simplifie

goodwill impairment test and allows early adoptionf

accounting professionals and deal makers

PwC clients who would like to obtain any of thesepublications should contact their engagement partner.Prospective clients and friends should contact themanaging partner of the nearest PwC office, which can befound at www.pwc.com.

This publication has been prepared for general information on matters of interest only, and does not constitute professional advice on facts andcircumstances specific to any person or entity. You should not act upon the information contained in this publication without obtaining specificprofessional advice. No representation or warranty (express or implied) is given as to the accuracy or completeness of the information contained inthis publication. The information contained in this material was not intended or written to be used, and cannot be used, for purposes of avoidingpenalties or sanctions imposed by any government or other regulatory body. PwC, its members, employees and agents shall not be responsible forany loss sustained by any person or entity who relies on this publication.

2011 PwC. All rights reserved. "PwC" refers to PricewaterhouseCoopers LLP, a Delaware limited liability partnership, which is a member firm ofPricewaterhouseCoopers International Limited, each member firm of which is a separate legal entity.
http://www.pwc.com/http://www.pwc.com/

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