Should Your Company Elect FASB’s Private Company Alternative for Business Combinations?
About a year ago, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update 2014-18, Business Combinations (Topic 805): Accounting for Identifiable Intangible Assets in a Business Combination. Private companies that choose to adopt this alternative will no longer have to determine the fair value and recognize certain customer-related intangible assets or those attributable to noncompetition agreements acquired in business combinations. Instead, these amounts will be included as a part of goodwill. The primary objective of this alternative was to save time and cost associated with the “purchase price allocation” process that is required by ASC 805, which involves determining the fair value of acquired intangible assets.
With year-end behind us and audit season underway, many companies are facing the decision of whether to adopt this alternative for their 12/31/15 financial statements. While this alternative may sound attractive on its surface, there are two key situations when electing this alternative may not be advisable, including:
- Future Liquidity Event. If your company has external users of your financial statements…or you may have external users someday…then this alternative may not be for you. For example, if your company might pursue an IPO, sell to a third party (which may be a publicly-traded company subject to public company GAAP), or sell to a private equity or venture capital firm (which often follow public company GAAP since these firms eventually will seek liquidity events), then maintaining “Big GAAP” financial statements is advisable (since the potential buyer is likely to require “Big GAAP” financial statements). If your company elects the private company alternative but someday needs to switch back (perhaps due to a liquidity event discussed above), the company would be required to restate its prior periods as if it hadn’t elected the private company alternatives. Depending on the circumstances, this could be a difficult and costly task.
- Nature of Customer Relationships. This alternative eliminated the need to recognize SOME, BUT NOT ALL, customer-related assets. Customer-related assets that can be sold or licensed still must be valued. As such, certain customer lists, customer contracts, and customer data may still meet the criteria for recognition and valuation. If these types of assets exist, our experience is that the valuation cost can actually be HIGHER because a valuation professional would need to bifurcate the customer-related assets into various components and independently value some of them. It is actually easier and less costly to value the entire customer relationship asset than to break it into components and value some of the components. So, if the acquired company has any type of customer-related asset that must be valued, it may make sense to NOT elect the alternative since it is generally easier and less costly to value the entire customer relationship asset.
The primary purpose of this private company alternative was to simplify financial reporting and reduce the valuation and audit cost related to business combinations. GBQ’s valuation practice is involved with ~400 independent valuation assignments annually, including ~100 purchase price allocations in connection with ASC 805. In our experience, there are many situations where no meaningful cost savings are realized by electing this private company alternative. So, the net result of these companies electing this alternative would be less robust financial statements for a similar cost. In these situations, we would recommend NOT electing this alternative. Please contact GBQ if you would like to discuss.