The Diamler Benz -Chrysler deal was executed using the pooling method where the balance sheets of both companies were combined to form a new balance sheet of the combined "Diamler Chrysler" enitity.
With the new FASB 142 rules the pooling method must stop (illegal) and the purchase method must be used for all M&A business combinations within the U.S, so goodwill premium is amortized over 40 years post transaction thus reducing EPS for the new entity and overall income. Has the pooling method been terminated, or is it still used?
Also, with acquisitions today, if say Anardarko acquired Kerr Mcgee with cash for $21 bn and assumed it's outstanding debt for $10 bn, how is this all accounted for on Anardarko's new balance sheet?
If Anardarko payed a premium of $10 bn, over Kerr Mcgee's fair value market cap, and the goodwill is placed on the asset side (balance sheet) of the new entity, how does the SE/Liabilities side on the balance sheet balance out? I.e how do we account for goodwill additional premium on the right side of the balance sheet via the purchase method?
Thanks all.
Goodwill is no longer amortizable in the U.S. -- it can be written down under certain (and generally not good) circumstances.
1) the difference between purchase price and the book value of assets is taken in order to arrive at excess cost over book. 2) auditors (i.e. e&y, PwC, etc.) then do tests to determine the write-up of net assets to fair market value. 3) this figure is subtracted from excess cost over book to arrive at an 'unidentified excess allocated to goodwill' or just goodwill for short.
what happens as a result of all this is the following:
a) all target equity is immediately erased (this makes sense--think about it for a second).
b) cash is subtracted from the acquirer balance sheet if needed to account for the cash consideration portion of the transaction (if any).
c) shareholders' equity on the acquirer balance sheet is adjusted (via the common stock and additional paid-in capital lines) to account for the stock consideration portion of the transaction (if any).
d) current/long-term debt on the acquirer balance sheet is adjusted to account for any non-on-hand cash to account for the remainder of the cash consideration portion of the transaction (if any).
e) goodwill is added to the acquirer balance sheet.
f) asset write-ups (as provided by the auditors) are added to the target balance sheet.
g) both balance sheets are added together.
basically, what happens (if you follow along the way i layed things out) is that the adjustments made to the acquirer balance sheet will equal the adjustments made to the target balance sheet. after that, the two are added together and will balance.
to make things simple, try this example at home using a 100% cash consideration example assuming all debt--that way you won't have to worry about calculating an exchange ratio and allocating between common stock at par value and APIC. also, you don't have to worry about what the actual asset write-up figures are (i.e. inventory, ppe, other current assets) because if you do the math right it will all balance (i.e. a smaller asset write-up figure to the target balance sheet just means a higher goodwill figure added to the acquirer balance sheet and vice versa--it'll always balance regardless of what the numbers are).
doing an example yourself will help you better understand what's going on--moreso than anyone here 'explaining' it to you.
Thanks Monkey_Island! and what is your background?
We need more posts like this on the site. Enough of the "how can I get a job?", "do I have a shot?", or "Can I move from back office to front office?"
This post actually illustrates what this site should be about.
Good explanation Monkey_Island. For clarification: Any goodwill on the the targets balance sheet is subtracted when calculating pro forma combined numbers.
oversight on my part. since the new company is legally distinct from the old company it stands to reason that "old" goodwill is irrelevant.
gotta subtract out the intangible assets before getting goodwill
that's technically correct.
for simplicity's sake however, i was leaving that out.
but in real life, you'd need to really classify intangibles into definite and indefinite life and capitalize accordingly.
definite life intangibles will then be amortized over their useful life.
additionally, if it was an asset purchase and not a stock purchase, the intangibles are amortizable for 15 years for tax purposes, in turn creating a tax benefit
that's correct as well.
additionally, another benefit of asset transactions is the fact assets can be depreciated from the buyer's high basis as opposed the seller's existing basis in a stock deal. this creates yet another tax benefit.
however, the only thing to keep in mind with asset purchase transactions (and i'm assuming here that we're bankers dealing with the modern corporation and not entrepreneurs dealing with a proprietorship or partnership) is that they're hard as hell to come by (after all, why would the seller want to retain liabilities AND get slammed by taxes twice--tax for the sale of the asset and then tax again on the after-tax proceeds of the corporation) and you'll generally get into nitpicky back and forth arguments over indemnities, tax "make-wholes" and other such bullshit.
however, while all of this information is useful in terms of deal structuring, it's somewhat extraneous to the original question as asked.
Acquisition - Dr. Investment; Cr. Cash/Share Capital etc. etc. in acquirers balance sheet
When consolidating adjustment is:
Dr goodwill (for the excess over FV); Cr. Share Capital, Cr. Reserves, Cr. Investment (from above) and any other crappy shite that needs to be cleared out - this adjustment would be made to the combined balance sheet (new entity balance sheet)
Explained in layman terms - the consolidated balance sheet cannot show the investment (as it would be an investment in itself!), can't show the share capital which is not external (to the group), and the same goes with the reserves - note that one of the 'credit' entries above might be put in minority interest if applicable.
It is nearly 1am and I am vexed. From the ghetto....
auditors don't come up with the goodwill numbers (or any other numbers for that matter.) The numbers are the responsiblity of the management of the company (the auditors just test them). If the auditors come up with the numbers they are no longer independent and can no longer "opine" on the fairness of the financials.
being truly 'independent' would necessitate that an auditor be able to come up with his own figures based on testing and the use of appropriate corporate documentation/paperwork.
if management were to provide figures first, then the audit/transaction advisory team would basically have a 'target' to work toward. even if the team was led by a truly independently minded individual, there would still be the subconscious desire on the individual
Monkey_Island, is your f50 company starting to perform purchase price allocation analysis prior to an acquisition? e.g. to check the impact that an amortization expense may have on the P&L and that it won't dilute the company's EPS?
for the board if they request it, but usually there are certain metrics you can eye ball i.e. if our p/e is higher than the target company p/e then we're buying "cheaper earnings" so to speak and the deal will generally always be Accretive regardless of whether you offer stock or cash consideration.
in a case like that, why be a lemming and waste your time?
companies hire 3rd party valuation firms to preform the PPAs, example HLHZ, then the audit firm, example delloite, signs off on it
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