Buying or Selling a Business or Assets – Can You Tell the Difference?
Your company has just acquired another business… or was it just assets? The answer to the question is often counterintuitive. There are a lot of nuances to the accounting rules, and most transactions require further scrutiny before the acquisition can be properly categorized.
Determining accurate accounting treatment is important because of the significant impact on the acquiring company’s financial statements, not just in the year of acquisition of but also in subsequent years. Some of the key differences in the accounting treatment of an acquisition of a business as opposed an acquisition of an asset include:
- Transactions costs are expensed in a business combination but are capitalized in case of an asset acquisition.
- Goodwill arises only from an acquisition of a business, recognition of goodwill for an acquisition of a group of assets is not appropriate.
- Fair value is used to measure assets and liabilities of an acquired business. In case of an asset acquisition, they are allocated at the cost of acquisition based on their relative fair values.
- Disclosures are more complex and extensive for business combinations as compared to asset acquisitions.
The definition of a business in the accounting standards is very broad and involves a significant degree of judgment. The accounting standards define a business as “An integrated set of activities and assets that is capable of being conducted and managed for the purpose of providing a return in the form of dividends, lower costs, or other economic benefits directly to investors or other owners, members, or participants.” It is a common misconception that all business assets need to be transferred for the acquisition to be accounted for as a business combination. To determine if the acquisition constitutes a business combination versus an asset purchase, the acquirer has to consider if key assets and processes have been transferred (acquisition of a customer list, hiring key employees, etc.). Transfer of merely the physical infrastructure (such as building or equipment) is only one of the factors that should be factored into the assessment.
Understanding the impact of the accounting treatment before the purchase is important for further negotiations with the buyer and securing the relationship with the financing institutions.