At its September 16, 2014 meeting, the Private Company Council reached consensus on a proposed GAAP exception available to private companies completing a business combination. The exception must be endorsed by the FASB before becoming effective.
The proposed exception would allow private companies not to recognize non-competition agreements and certain customer-related intangible assets acquired in a business combination. The rationale for the exception is that such assets – while they may have a legal or contractual basis – are not typically capable of being independently sold or licensed. The PCC acknowledged that not all customer-related intangibles fit within this exception. As a result, certain customer-related intangibles (mortgage servicing rights, commodity supply contracts, and core deposits) will still be recognized by private company acquirers.
The PCC’s mandate is to reduce the cost and complexity of financial reporting for private companies. The degree to which this proposal meets that objective depends, in part, on two factors:
- What other assets will be recognized as part of the business combination? If the fair value of another intangible asset is to be measured using the multi-period excess earnings method (“MPEEM”), non-compete agreements and customer relationships will likely be contributory assets that need to be valued as inputs to the MPEEM. This has historically been the case with assembled workforce, which is valued in nearly every purchase price allocation despite not meeting the recognition criteria for intangible assets. In other words, limited recognition may not limit the need to measure the fair value of the assets.
- What is the likely future status of the private company acquirer? Acquisitive private companies are often growing private companies. Such companies may be prime candidates for eventual IPO, sale to a public company, or sale to a private equity firm. Transition guidance for formerly private companies that later become public companies is currently limited. If – as seems likely – business combination accounting for such companies needs to be retroactively revised to conform to public company GAAP, the headache and cost of such efforts may be material.
Private company GAAP is an emerging phenomenon. Stay tuned to this blog for continued updates from the PCC, and don’t hesitate to give one of our professionals a call if you have a specific question.
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