As companies look to restore value lost because of the economic downturn from the COVID-19 pandemic, they may focus on acquiring strategic assets. In these “bolt-on acquisitions,” the value proposition is clear and sometimes more immediate. Larger transactions, including acquisitions of full businesses, may be less common. Deciding whether to execute any deal is influenced in part by the expected positive impact to earnings per share (EPS). This metric is often included within Board reporting packages supporting the investment decision and communications to shareholders.
Historically, most M&A activity was accounted for as the acquisition of a business, and deal models reflected that treatment. However, recent changes to the accounting model mean that more M&A activity may be accounted for as asset acquisitions.
Distinguishing whether a transaction is an asset acquisition or an acquisition of a business is critical to determining the impact of the transaction on future earnings. We’re highlighting the most common differences to help companies recalibrate their deal models.
In an acquisition of a business, transaction costs are expensed on, or prior to, the acquisition date. In an asset acquisition, transaction costs are a cost of acquiring the assets, and therefore initially capitalized and then subsequently depreciated.
The result: Asset acquisitions will have higher net income in the period of acquisition, and a lower net income over the life of the acquired assets due to depreciation.
In a business acquisition, IPR&D is recorded as an indefinite-lived intangible asset measured at fair value using market participant assumptions. The asset is expensed if abandoned or upon completion of the associated research and development efforts.
In an asset acquisition, IPR&D is expensed at the acquisition date if it has no alternative future use (it’s rare to have IPR&D with an alternative future use).
The result: Assets acquisitions will initially report lower net income due to the immediate charge to the income statement.
In an acquisition of a business, payments to the seller that are contingent on future events, such as a regulator approving a product, are recorded at fair value on the date of acquisition and marked to market each period through earnings. In contrast, in an asset acquisition, a liability for contingent consideration that does not meet the definition of a derivative is typically recorded only when probable and reasonably estimable.
The timing of when contingent consideration is recognized is not, however, the only difference. In an acquisition of a business, only the initial fair value would typically be reflected in the assets acquired (often goodwill). Subsequent changes in the fair value of the contingent consideration are often recorded through earnings. In an asset acquisition, both the initial and subsequent amounts are reflected as an adjustment to the cost basis of the assets acquired. These higher asset values will generate depreciation expense in future periods.
The result: In an asset acquisition, the timing of expense of contingent consideration will be different and EBITDA will typically be higher than in a business acquisition.
In a business acquisition, goodwill is recognized as an indefinite-lived intangible asset and tested for impairment. Goodwill is not recognized in an asset acquisition. Even if there is economic goodwill in the transaction, this amount is allocated to the assets acquired based on their relative fair values. This results in a higher asset basis that must then be amortized or depreciated.
The result: Asset acquisitions will have lower ongoing net income due to the recurring amortization/depreciation, but less chance of income statement volatility due to an impairment in the future.
In a business acquisition, the buyer has up to one year to adjust provisional amounts recognized on the acquisition date. No such measurement period exists for asset acquisitions as the accounting for these transactions is viewed as less complex. Subsequent adjustments to the values allocated in an asset acquisition would be considered errors.
The result: In an acquisition of assets, communications to stakeholders should
not describe asset values as preliminary.
Appropriately describing the asset acquisition in company communications helps avoid confusion in the marketplace and potential stock price volatility.
Communication with stakeholders on the nature of the deal must be transparent so that they can appropriately adjust their models. If investors and other stakeholders don’t have this information, there may be confusion in the marketplace and potential stock price volatility. For example, when details included in the press release describe the deal as a “strategic business acquisition” when it is accounted for as an asset acquisition, stakeholders may include adjustments to their earnings forecasts that are inconsistent with asset acquisition accounting.
There are also different footnote disclosure requirements depending on whether an asset or a business is acquired. Disclosure requirements are less onerous for asset acquisitions. For example, when a registrant acquires a business, supplemental pro forma revenue and earnings are required in the footnotes; these incremental disclosures are not required for asset acquisitions.
For more information on asset acquisitions and additional guidance on differences compared with the accounting for business combinations, see Chapter 2 of PwC’s Property, plant, equipment and other assets guide.