Question

1) On January 1, Year 1, Shaq Co. acquired 100% of the outstanding common stock of O’Neal Co. As part of the total consideration transferred, Shaq promised to the shareholders of O’Neal to issue on May 1, Year 2, additional 1,000 shares of common stock if the total consolidated net income for Year 1 is greater than $1Billion. The consolidated net income in Year 1 was $1.2 Billion.

The controller of Shaq Co. took the ACCY 410 class at the UIUC and remembers that this contingent consideration must be classified as equity (i.e., APIC) in the consolidated financial statements. However, the controller did not always come prepared to the class and does not remember whether this contingent consideration should be remeasured on 12/31/Year 1 or not.

Research and cite a specific paragraph in the Accounting Standard Codification that can help the controller to determine whether this contingent consideration should be remeasured at the year-end, or not. Unless specifically requested, your response should not cite implementation guidance and illustrations.

FASB ASC                               -                   -                   -

Answer 1

Contingent consideration is an obligation of a buyer of the business to transfer consideration (assets - generally cash/equity generally shares ) to the seller if future events occur or conditions are met. The current case is an example of Unconditional contingent consideration.

Unconditional contingent consideration is measured at fair value on the acquisition date and is a part consideration regardless of the probability of payment. Contingent consideration classified as a liability is remeasured to fair value at each reporting date, whereas the one classified as equity, is not remeasured in the post-combination period.

In the current senerio, the contingent liability is classified as equity and hence it is not subsequently remeasured. When the contingency is settled, it would be accounted for within equity with no impact on profit or loss.

ASC 805, the section of the FASB codification that addresses business combinations, requires that:

• The fair value of contingent consideration be recognized and measured at fair value at the acquisition date. In most cases, recognition of a liability for contingent consideration will increase the amount of goodwill recognized in the transaction.
• Fair value must be re-measured for each subsequent reporting date until resolution of the contingency, and any increases or decreases in fair value will show up on the income statement as an operating loss or gain.
• if contingent consideration is reported as equity, as in stock price contingency, no value changes are reported. Final settlement is reported in equity.