Mastering Business Combinations: Key Tips For Restaurant Success

February 18, 2025

Breaking Down ASC 805: Accounting For Business Combinations

Acquiring a business is exciting, but companies must consider Generally Accepted Accounting Principles (GAAP) for financial reporting. Under ASC 805, which covers Accounting for Business Combinations, restaurant companies must follow steps to comply with GAAP standards. ASC 805 requires that acquired assets and liabilities be recorded at fair value. Understanding these rules and specialized assets in the restaurant industry is essential for accurate post-acquisition financial reporting.

This article covers the valuation of assets and liabilities in non-public restaurant entities, the role of third-party valuation firms, and the timing of these tasks. It assumes an independent, arms-length acquisition with no common control between seller and acquirer.

ASC 805 (GAAP) vs. Purchase Price Allocation (Tax basis)

ASC 805 outlines how companies must account for business combinations following GAAP. This includes guidance on identifying the acquirer, determining the acquisition date, and recognizing and measuring the assets acquired and liabilities assumed at fair value. The main goal of ASC 805 is to present an accurate and fair presentation of the acquirer’s financial position, reflecting the acquisition’s impact on the financial statements.

It is important to note that a common misconception is that a company should record the assets of the new business using the purchase price allocation included within the purchase agreement. The purchase price allocation is strictly used for income tax purposes and does not affect how assets are valued under GAAP reporting.

Assets and Liabilities Subject To Being Fair Valued

Under ASC 805, companies are required to determine the fair value of acquired tangible and intangible assets, including the following:

PP&E: Includes leasehold improvements, buildings, furniture/fixtures, vehicles, and equipment.
Brand, Trademarks, Recipes: Identify and value the intellectual property held by the acquired company based on fair value, considering useful life and potential future income. This applies to independent brands, not franchise brands owned by the franchisor.
Franchise Rights: If the acquirer assumes existing franchise agreements of a franchised company, the agreements will be valued at fair market value. This valuation considers factors like the remaining term and expected future profits.
Area Development Rights: When a franchisee acquires the right to open a set number of units within a specific area or has geographical exclusivity, this right is assigned a fair value. This value can be included with franchise rights or separately, as it enhances the intangible asset’s overall value.
Goodwill: Goodwill is recognized when the acquisition cost exceeds the fair value of the identifiable net assets obtained. It encompasses intangible assets such as brand reputation, customer relationships, and employee expertise.

ASC 805 requires companies to determine the fair value of acquired liabilities, including the following:

Acquired Leases: Value these by calculating the present value of future lease payments, considering the lease term, interest rates, and market conditions. Adjust for any off-market terms (e.g., below-market rent) to recognize market rate rent monthly through a non-cash GAAP adjustment. This is often referred to as favorable or unfavorable lease positions.
Debt and Other Liabilities: In asset acquisitions, buyers do not typically assume the seller’s debt unless explicitly stated. They usually assume only agreed-upon liabilities related to purchased assets. In stock purchases, however, the buyer automatically inherits all of the seller’s debts and liabilities, including legal, tax, and employee-related obligations. Any assumed liabilities must be valued at fair value to reflect their actual worth to the acquirer.

Outside of assets and liabilities, other GAAP considerations include:

Contingent Considerations: If the deal includes contingent payments (e.g., earnouts), they should be valued at fair value based on the expected payout, including potential earnouts tied to future performance.
Transaction Costs: ASC 805 provides specific guidance on what expenses can be capitalized and what must be expensed in relation to acquisition-related costs.
- Capitalizable – financing costs associated with obtaining debt or issuing equity, and underwriting fees related to debt and equity issuances.
- Expensed – legal fees (not related to debt or equity issuance), due diligence costs, valuation fees, finder’s fees, and acquisition-related bonus expenses.

A third-party valuation expert is usually needed to independently and objectively assess the fair value of acquired assets, ensuring compliance with GAAP.

Timeline Considerations

Acquiring a business takes time, and fair value assessments are no different. As you near the final stages of acquisition, consider third-party valuation firms early, ideally within 30-45 days post-closing. These valuations usually take 4-8 weeks, depending on the speed of information provision. The resulting valuations can significantly adjust your financial statements, including reworking fixed assets, recording new goodwill and intangible assets, and identifying other changes requiring attention. Allocate enough time to avoid year-end financial delays. A pre-valuation meeting between management, auditors, and the valuation firm is recommended to align expectations on scope and methodology.

Acquiring another business can be a significant event, and understanding the nuances of ASC 805 is essential for ensuring proper accounting. A company should be prepared to engage valuation experts and spend time upfront carefully assessing the fair value of assets and liabilities. This time investment is imperative to provide timely and accurate financial reporting.

The GBQ team provides support throughout the business combination process. For inquiries regarding GAAP guidance for the assurance team or questions about valuation, our team of experts can offer assistance.

By Kari Maue, CPA, Director, Assurance & Business Advisory Services