1. The Guts of Acquisition Accounting
Complex Deals: Class 4
The Guts of Acquisition Accounting
Comprehensive acquisition accounting example
Non-controlling interests
Full fair value method vs. IFRS’s optional proportionate share method
Contrasting consolidated financial statements with the equity method

2. PPA: The Overall Fair Value of the Acquired Entity May be Comprised of a Number of Distinct Pieces
Fair value of consideration issued by acquirer to
outside shareholders of target
Direct consideration paid by acquirer to the Target’s shareholder’s or its Employees +
Contingent Consideration (contingent options given to target shareholders as insurance) +
Equity-based compensation / golden parachutes given to target’s employees for past services
If acquirer buys < 100% of target, must add value of non-controlling stake to get fair value of target +
Fair Value of non-controlling interests (if any)
If acquirer has pre-existing non-controlling stake in target, this stake must be re-valued to fair value +
Fair Value of pre-existing equity interests (if any)

3. Non-Controlling Interests
Target Reflected at its Total Fair Value = Fair Value of Controlling + Fair Value Non-Controlling Interests
Parent
Parent controls the subsidiary (X > 50%) and must consolidate.
Parent adds 100% of Subsidiary’s assets and liabilities to the balance sheet line-by-line even though Parent owns < 100% of Subsidiary.
Non-Controlling Interests
X % > 50%
Outside
Shareholders
of Subsidiary
Subsidiary
(100 – X) %
Requires a separate owners’ equity account to reflect consolidated net assets not owned by parent’s shareholders
Consolidated Assets = Aparent + Asub
Consolidated Liabilities = Lparent + Lsub
Consolidated Owners’ Equity = OEparent + NCI in Sub’s Net Assets

4. Acquisition Accounting with NCI: Example
Deal Structure: A acquires 90% (45M / 50M shares) of T ’s outstanding voting common stock for a cash offer price of $17 /shr on 12/31/20
Pre-deal Balance Sheets (in millions (M)):
A T
Cash $ 700 $ 200
Intangibles 500 –
Goodwill – 30
PP&E, net
Total Assets $ 1,400 $ 380
Long-term debt
Equity 1,
Total Liabilities & Equity $ 1,400 $ 380

5. Additional Deal Information and Assumptions
A issues debt in the amount of $765M to finance the stock acquisition. The financing fee for issuing the acquisition debt is 2% ($765*.02 = $15.3M)
$17/share used to value the non-controlling interests ($17 * 5M shares = $85M)
Fair value of T ’s separable intangibles is $300M. These intangibles are carried at zero on T’s per-deal balance sheet.
Fair value of T ’s PP&E is $300M, but carried at $150M on T’s pre-deal balance sheet.
T ’s long term debt is fairly valued at $80M.
Transaction fees (including advisory fees, accountant and lawyer fees) of $25M are paid in cash on the deal closing date.
Ignore all tax implications for this deal.

6. Sources and Uses of Funds Statement
Cash Paid for 90% of T’s Equity $ = $17/shr × 45M shares
Transaction Fees 25.0 (given)
Financing Fees on new debt 15.3 = 2% × $765
Total Uses of Funds $ 805.3
Sources of Funds:
Balance Sheet Cash $ = $25 + $15.3
Stock Issuance 0.0 (given)
Acquisition Debt (given)
Total Sources of Funds $

7. Purchase Price Allocation: NCI at Full Fair Value (required under U. S
Purchase Price Allocation: NCI at Full Fair Value (required under U.S. GAAP; optional under IFRS)
Fair Value of 100% of T:
– 100% of BVNAT:
= Unamortized Differential:
(1) Write-up PP&E to fair value:
(2) Write-up Intangibles to Fair Value:
(3) Write-off of T ’s “Old” Goodwill:
– Net Asset Write-ups:
= Total Goodwill:
$ 765+$85 = $850 = Controlling + NCI
(300)
$ 550
$ =Revalue PP&E to $ =Value $300
(30)
(420)
$ 130
FVINAT = BVNAT + Net Asset Write-up = $300 + $420 = $720
Fair Value of 100% of T = FVINAT + Goodwill = $ = $850

8. Digression: Proportionate Share Method (U. S
Digression: Proportionate Share Method (U.S. GAAP not allowed; IFRS optional)
Under IFRS, firms have the option of
Measuring NCI and Goodwill at full fair value (as in U.S. GAAP), or
Measuring NCI at its proportionate share of FVINA => Deal measured at:
100 % FVINA + the Controlling Interest’s share of goodwill
Difference between 1 & 2 is that Goodwill is not recognized for the NCI under 2!
From the previous slide under full fair value: NCI = $85 and GW = $130
Under proportionate share method:
NCIproportionate =FVINAT * NCI% or $720*.10 = $72.
GWproportionate = (1- NCI% ) * GWfull fair value = .90 * $130 = $117
$ = $17/shr × 45M shares
(648) = 90% × $720
117 = $765 – $648
Fair value of 90% of T:
90% of FVINA of T ’s :
= Goodwill (Controlling Interest)

9. Purchase Price Allocation: Proportionate Share Method (U. S
Purchase Price Allocation: Proportionate Share Method (U.S. GAAP not allowed; IFRS optional)
Fair Value of 100% of T:
– 100% of BVNAT:
= Unamortized Differential:
(1) Write-up PP&E to fair value:
(2) Write-up Intangibles to Fair Value:
(3) Write-off of T ’s “Old” Goodwill:
– Net Asset Write-ups:
= Total Goodwill:
$ 765+$72 = $837 = Controlling + NCI
(300)
$ 537
$ =Revalue PP&E to $ =Value $300
(30)
(420)
$ 117
FVINAT = BVNAT + Net Asset Write-up = $300 + $420 = $720
Fair Value of 100% of T = FVINAT + Goodwill = $ = $837

10. Deal Closing Journal Entries (using Full Fair Value Method)
Record the fair value of 100% of T, the issuance of acquisition debt plus financing fees and non-controlling interest (NCI) at fair value:
Investment in T (temporary account) $ 850.0
Transaction Fees (Expense) 25.0
Capitalized Financing Fees 15.3
Acquisition Debt $ 765.0
Cash 40.3
Non-controlling Interest (NCI) (Equity) 85.0
Note:
Debt issuance fees are capitalized under and amortized to interest expense over the duration of the debt.
Any costs associated with equity issuance are treated as a reduction of APIC

11. Deal Closing Journal Entries (using Full Fair Value Method)
Remove ‘Investment in T’ and replace it with T’s revalued balance sheet from PPA:
T ’s book value of assets and liabilities
The write-ups to bring T’s assets and liabilities to fair value
Goodwill of $130
Cash – T (1) $ 200
PP&E – T (1) 150
PP&E – T (2) $ 150
Intangible – T (2) 300
Goodwill (3) 130
LT-Debt – T(1) $ Investment in T (temporary account) $ 850
Note: all we have done is replaced the value of T, $850, with the detailed fair values of the underlying assets and liabilities that comprise T.

12. Acquisition Method: A’s Post-Deal Balance Sheet
A T Adj. Consolidated
Cash $ 700 $ 200 (40.3) $ 859.7
PP&E, net
Intangibles
Capitalized Financing – –
Old Goodwill (30.0) 0
Goodwill (CI + NCI) –
Total Assets $ 1,400 $ $2,305.0
Long-term Debt $ 300 $ 80 $ 380.0
Senior Acquisition Debt – –
Equity (CI) 1, (325.0)* 1,075.0
Equity (NCI) – –
Total Liabilities & Equity $ 1,400 $ $2,305.0
* Eliminate T’s equity ($300) and reflect $25 transactions cost expense as reduction of A’s Retained Earnings

13. Recall Structure of the Equity Method
Parent
Subsidiary
x %
Parent’s Balance Sheet
Subsidiary’s Balance Sheet
Although the accounting for A’s acquisition of T requires consolidation due to control, we next consider what this deal looks like under the equity method for comparison purposes.

14. Equity Method PPA: Focuses only on A’s slice of T
Consideration for 90% of T’s Equity:
– 90% of BVNAT:
= Unamortized Differential:
(1) PP&E Step-up:
(2) Unrecognized Intangibles:
(3) Write-off of T ’s Goodwill:
– Net Asset Step-ups:
= Total (Implied) Goodwill:
$ 765 = $17/shr × 45M shares
(270) = 90% × $300
$ 495
$ = 90% × ($300 – $150)
270 = 90% × ($300 – $0)
(27) = 90% × ($0 – $30)
(378) = 90% × (FV – BV)
$ 117

15. Equity Method: Deal Journal Entries
Record the acquisition of 90% of T, the issuance of acquisition debt along with the associated financing fees, transaction fees:
Investment in T $ 765.0
Transaction Fees (Expense) 25.0
Capitalized Financing Fees 15.3
Acquisition Debt $ 765.0
Cash 40.3

16. (2) Equity Method: A’s Balance Sheet on 12/31/20
Cash $ = $700 – $40.3
Identifiable Intangibles 500.0
PP&E, net 200.0
Investment in T = $765 (buried GW = $117)
Capitalized Financing Costs 15.3 = $765 × 2%
Total Assets $ 2,140.0
Long-term Debt 300.0
Senior Acquisition Debt (Acquisition Debt)
Equity 1,075.0 = $1,100 – $25 transaction fees
Total Liabilities & Equity $ 2,140.0

17. Balance Sheet Comparison on 12/31/20
(1) (2)
Consolidation Equity
A T Method
Cash $ 700 $ 200 $ $ 659.7
PP&E, net
Intangibles
Capitalized Financing – –
Investment in T – – – 765
Goodwill (CI + NCI) – –
Total Assets $ 1,400 $ 380 $ 2,305 $ 2,140
Long-term Debt $ 300 $ 80 $ 380 $ 300
Senior Acquisition Debt – –
Total Liabilities ,145 1,035
Equity (NCI) – – 85 –
Equity (CI) 1, ,075 1,075
Total Equity 1, ,150 1,075
Total Liabilities & Equity $ 1,400 $ 380 $ 2,305 $ 2,140
A’s Post-Deal Balance Sheet
Pre-Deal Standalone
Balance Sheets

18. Acquisition Accounting Post-acquisition
Stand-alone income statements for 2021 before acquisition accounting considerations
A T
Sales $ 200 $ 150
Cost of Goods Sold (100) (50)
Gross Profit $ 100 $100
SG&A Expense (25) (30)
Amortization Expense (10) –
Depreciation Expense (5) (10)
Net Income $ 60 $ 60
Objective of example:
Construct A’s “pro-forma” post-acquisition Income Statement for 2021 assuming A prepares:
(1) Consolidated financial statements.
(2) “Parent-only” financial statements using the equity method.
Reconcile differences between the two accounting treatments.

19. Additional Information and Assumptions
A issues 5-year senior notes in the amount of $765 to finance the stock acquisition.
The interest rate on this debt is 5% and
Financing fee for issuing this debt is 2% and amortized straight-line over 5 years.
$300 fair value write-up established for T’s identifiable definite-lived intangible assets. The average useful life for these finite-lived intangibles is 20 years.
The fair value of T ’s PP&E is $300 with an average useful life of 15 years.
T declares and pays dividends of $10 during 2011.
$17 per share used for valuing the stake of the non-controlling interests ($17 * 5M shares = $85)
T ’s long term debt is fairly valued at $80.
Transaction fees (including advisory fees, etc.) of $25 are paid in cash on the deal closing date.
Ignore all tax implications for this deal.

20. Acquisition Accounting Entries in 2021: Note: T’s Standalone financial statements do not reflect Acquisition Accounting adjustments
Depreciation Expense $ 10 PP&E, net $ 10 (100% of Step-up in T ’s PP&E / Useful Life = $150 / 15 years = $10) Amortization Expense 15 Identifiable Intangibles 15 (100% of T ’s Unrecognized Intangibles /Useful Life = $300 / 20 years = $15) Interest Expense $ 3.1 Capitalized Financing Costs $ 3.1 (Capitalized Financing Costs/ Amortized Life = $15.3 / 5 years = $3.1) Interest Expense 38.3 Cash 38.3 (5% Interest on A’s Acquisition Debt = $765 × 0.05 = $38.3)
Record deprecation and amortization of asset write-ups
Amortize capitalized financing costs on A’s books
Record A’s interest expense on acquisition debt

21. Acquisition Method: Pro Forma Combined Statement of Income for 2021
2021 Stand-Alone
A T Adj. Consolidated
Sales $ 200 $ 150 – $ 350.0
COGS (100) (50) – (150.0)
Gross Profit – 200.0
SG&A & Interest Expense (25) (30) (41.4) (96.4)
Amortization Expense (10) – (15.0) (25.0)
Depreciation Expense (5) (10) (10.0) (25.0)
Total Net Income $ 60 $ 60 (66.4) 53.6
Income Attributable to NCI – – (3.5) (3.5)
Net Income Attributable to A $ 60 $ 60 $ (69.9) $ 50.1

22. Computation of Net Income Attributable to NCI in 2021
T ’s Stand-alone Net Income $ 60.0
Incremental Expenses from Fair Value Adjustments:
Incremental Depreciation (10.0)
Incremental Amortization (15.0)
T ’s Net Income (After Merger Adjustments) 35.0
Non-controlling Interest Ownership 10.0 %
Net Income Attributable to NCI $ 3.5

23. Acquisition Method: Consolidated Balance Sheet on 12/31/21
Cash $ (from Statement of Cash Flows)
Intangibles = $800 – ($15 + $10)
PP&E, net = $500 – ($5 + $10 + $10)
Capitalized Financing Costs = $15.3 – $3.1
Goodwill (not amortized)
Total Assets $ 2,357.6
Long-term Debt $ 380.0
Senior Acquisition Debt 765.0
Total Liabilities $ 1,145.0
Equity (CI) $ 1, = $1, $50.1
Equity (NCI) = $85 + $3.5 – $1
Total Equity $ 1,212.6
Total Liabilities & Equity $ 2,357.6

24. Acquisition Method: Controlling Interest’s (CI) Equity on 12/31/21
Post-Deal Equity (CI) Balance (12/31/20) $ 1,075
+ A’s Consolidated Net Income 50.1
– Dividends Paid to A’s Shareholders (0)
Equity (CI) End Balance (12/31/21) $ 1,125.1

25. Acquisition Method: Non-controlling Interest (NCI) on 12/31/21
Equity (NCI) Beg. Balance (12/31/20) $ 85.0
+ T ’s Net Income Attributable to NCI 3.5
– Dividends Paid to NCI (10% of T’s $10 dividend) (1.0)
Equity (NCI) End Balance (12/31/21) $ 87.5

26. Acquisition Method: Pro Forma Combined SCF for Year Ended 2021
Total Net Income $ 53.6
+ Amortization Expense: 25.0
+ Depreciation Expense: 25.0
+ Amortization of Capitalized Financing Costs 3.1
Cash Flows from Operating Activities $ 106.7
Cash Flows from Investing Activities 0.0
– 10% of T’s $10 Dividend paid to NCI (1.0)
Cash Flows from Financing Activities (1.0)
Net Increase (Decrease) in Cash $ 105.7
Beginning Cash (01/01/21)
Ending Cash (12/31/21) $ 965.4

27. “Parent Only” financial statements using the equity method: Deal related journal entries in 2021
i. Record A’s share of T ’s income for 2021 Investment in T $ 54 Equity income in T $ 54 (NOTE: 90% of T ’s Net Income = $60 × 0.90 = $54) ii. Record receipt of dividend from T in 2021 Cash 9 Investment in T 9 (NOTE: 90% of Dividend Paid by T = $10 × 0.90 = $9)
Investment in T
12/31/
54 (i) (ii)
12/31/11 20 21

28. Equity Method: Other Deal Adjustments in 2021
((iii) Depreciation Expense $ 9
Investment in T $ 9
90% of Step-up in T ’s PP&E /Useful Life= [ $150 / 15 years] × 0.90 = $9
(IV) Amortization Expense 13.5
Investment in T
90% of T ’s Unrecognized Intangibles / Intangible Useful Life =
[ $300 / 20 years] × 0.90 = $13.5
Interest Expense (SG&A) $ 3.1
Capitalized Financing Costs $ 3.1
(Capitalized Financing Costs/ Amortized Life = $15.3 / 5 years = $3.1)
Interest Expense (SG&A) 38.3
Cash
(5% Interest on A’s Acquisition Debt = $765 × 0.05 = $38.3)
Record 90% of deprecation and amortization of asset write-ups (and reflect in Investment in T 20 21
Amortize capitalized financing costs on A’s books
Record A’s interest expense on acquisition debt

29. Equity Method: A’s Income Statement for 2021
Income Statement (2021) A
Sales $ (A’s standalone revenue)
COGS (100.0) (A’s standalone COGS)
Gross Profit $ (A’s standalone gross profit)
Equity Income in T 31.5 = $54 – $9 – $13.5
SG&A & Interest Expense (66.4) = $25 + $ $38.3
Amortization Expense (10.0) (A’s standalone amortization)
Depreciation Expense (5.0) (A’s standalone depreciation)
Net Income $ 50.1

30. Equity Method: A’s Balance Sheet on 12/31/21
Cash
Intangibles
PP&E, net
Investment in T
Capitalized Financing Costs
Total Assets
Long-term Debt
Senior Acquisition Debt
Equity
Total Liabilities & Equity
$ (from Statement of Cash Flows)
= $500 – $10
195.0 = $200 – $5
787.5 = $765 + ($31.5 – $9)
12.2 = $ $3.1
$ 2,190.1
300.0
765.0 (Acquisition Debt)
1,125.1 = $1,075 + $50.1
$ 2,190.1

31. Equity Method: A’s Cash Flow Statement (2021)
A’s Net Income $ 50.1
– Equity Income in T (31.5)
+ Dividends from T (90%*$10) 9.0
+ Amortization Expense: 10.0
+ Depreciation Expense: 5.0
+ Amortization of Capitalized Financing Costs 3.1
Cash Flows from Operating Activities $ 45.7
Cash Flows from Investing Activities 0.0
Cash Flows from Financing Activities 0.0
Net Increase (Decrease) in Cash $ 45.7
Beginning Cash (01/01/21)
Ending Cash (12/31/21) $ 705.4

32. 2021 Income Statements: Consolidation versus Parent Only (equity method)
(1) (2)
Consolidation Equity
A T Method
Sales $ 200 $ 150 $ $ 200.0
Cost of Goods Sold (COGS) (100) (50) (150.0) (100.0)
Gross Profit $ 100 $ 100 $ $ 100.0
Equity Income in T – – – 31.5
SG&A Expense (25) (35) (96.4) (66.4)
Amortization Expense (10) – (25.0) (10.0)
Depreciation Expense (5) (10) (25.0) (5.0)
Net Income Attributable to NCI – – (3.5) –
Net Income $ 60 $ 60 $ 50.1 $ 50.1
A’s Post-Deal 2021 Statement of Income
2021 Stand-Alone
Income Statements

33. 12/31/21 Balance Sheets: Consolidation versus Parent Only (equity method)
(1) (2)
Consolidation Equity
Method
Cash $ $ 705.4
PP&E, net
Intangibles
Capitalized Financing
Investment in T – 787.5
Goodwill (CI + NCI) –
Total Assets $ 2,357.6 $ 2,190.1
Long-term Debt $ $ 300.0
Senior Acquisition Debt
Total Liabilities $1,145.0 $ 1,065.0
Equity (NCI) 87.5 –
Equity (CI) 1, ,125.1
Total Equity $ 1,212.6 $ 1,123.9
Total Liabilities & Equity $ 2,357.6 $ 2,190.1
A’s 12/31/21 Balance Sheets