In August 1996, the FAS Board added to its agenda a project on accounting for business combinations. In September 1999 FASB issued an Exposure Draft of a proposed Statement that eliminated pooling of interests accounting. The following comments update our views on the status of this FASB accounting project.
New FASB proposal for Business Combinations would still eliminate 'pooling-of-interests' accounting but - a significant change - the FASB would no longer require the amortization of goodwill with purchase accounting. FASB has indicated that all amortization of all goodwill [including goodwill from previous acquisitions] will cease and would be accounted for under the impairment approach. Acquired intangible assets [other than goodwill] would continue to be amortized over their useful life.
FASB plans to issue its tentative proposal in early February and expects to issue its Final Statement in June 2001.
Chartwell Comment: This approach will produce essentially the same EPS for purchase accounting transactions as for pooling of interest accounting. On an earnings basis investors would therefor assume that such an accounting change would not effect acquisition valuations. However......
FASB still achieves its goal of accounting for the full purchase price of an acquisition on the acquirors balance sheet. As a result, purchase accounting will have a significant impact on reported returns related to high premium to book value acquisitions. For example;
If an acquiror pays 3x book value for a bank earning 15% on equity....
The acquirors reported return on the acquisition price will be5%.
We continue to believe that purchase accounting will tend to reduce future acquisition premiums and, unless pooling-of-interests accounting is permitted for mergers of equals, will make such mergers of equals very difficult to structure.
As we have previously observed, pooling of interest accounting provides an excellent 'defense' for targets of hostile acquirors. We expect to see the use of more aggressive acquisition tactics develop as a result of purchase accounting.
The information contained in this article is intended only to provide a general guide to the subject matter. Advice from specialists is still recommended for your specific requirement and particular circumstances.