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Accounting for business combinations
Acquisitions that qualify for accounting under ASC 805
For business combinations, the accounting complexity starts before the beginning. Not all acquisitions meet the definition of a business combination under ASC 805—but for those that do, the acquisition method of accounting comes into play.
The basics of accounting for business combinations
Entities engage in acquisitions for various reasons. For example, they may be looking to grow in size, diversify their product offerings, or expand into new markets or geographies. The accounting for acquisitions can be complex and begins with a determination of whether an acquisition should be accounted for as a business combination. ASC 805-10, ASC 805-20, and ASC 805-30 address the accounting for a business combination, which is defined in the ASC master glossary as “[a] transaction or other event in which an acquirer obtains control of one or more businesses.” Typically, a business combination occurs when an entity purchases the equity interests or the net assets of one or more businesses in exchange for cash, equity interests of the acquirer, or other consideration. However, the definition of a business combination applies to more than just purchase transactions; it incorporates all transactions or events in which an entity or individual obtains control of a business.
If the acquisition does not meet the definition of a business combination, the entity must determine whether it should be accounted for as an asset acquisition under ASC 805-50. Distinguishing between the acquisition of a business and the acquisition of an asset or a group of assets is important because there are many differences between the accounting for each. Alternatively, if the assets acquired consist of primarily cash or investments, the substance of the transaction may be a capital transaction (a recapitalization) rather than a business combination or an asset acquisition.
Determining whether an acquisition is a business combination or an asset acquisition
To determine whether an acquisition should be accounted for as a business combination, an entity must evaluate whether the acquired set of assets and activities together meet the definition of a business in ASC 805.
An entity first uses a “screen” to assess whether substantially all of the fair value of the gross assets acquired is concentrated in a single identifiable asset or group of similar identifiable assets. If the screen is not met, the entity must apply a “framework” for determining whether the acquired set includes, at a minimum, an input and a substantive process that together significantly contribute to the ability to create outputs. If so, the acquired set is a business.
The decision tree below illustrates how to determine whether an acquisition represents a business combination or an asset acquisition.
SEC registrants are required to use the definition of a business in SEC Regulation S-X, Rule 11-01(d), when evaluating the requirements of SEC Regulation S-X, Rule 3-05, and SEC Regulation S-X, Article 11. The definition of a business in Rule 11-01(d) is different from the definition of a business in ASC 805-10.
Other related issues
SEC reporting requirements
To ensure that investors receive relevant financial information about a company’s significant activities, the SEC requires registrants to report financial information about significant acquired or to be acquired businesses or the acquisition of real estate operations (the acquiree) in certain filings under Regulation S-X, Rules 3-05 and 3-14, respectively.
See Deloitte’s Roadmap SEC Reporting Considerations for Business Acquisitions for more information.
Continue your business combinations learning
Deloitte’s Roadmap Business Combinations provides Deloitte’s insights into and interpretations of the guidance in ASC 805 on business combinations, pushdown accounting, common-control transactions, and asset acquisitions as well as an overview of related SEC reporting requirements.