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Question: In your informed opinion, should there be one method of accounting for all business combinations?...

Question:
In your informed opinion, should there be one method of accounting for all business combinations? If so, which method is theoretically most appropriate? Or do economic circumstances exist that dictate more than one method? If so, which methods would be most appropriate (and under what circumstances)? Regardless of your opinion, be sure to adequately address the advantages and disadvantages of a single method vs. multiple methods.

Note: In answering this question, keep in mind that a business combination could range from an all-stock transaction (a stock swap) to an all-cash transaction. Also keep in mind that some combinations are clearly acquisitions, while others are more like mergers.


Solutions

Expert Solution

There can not be a single menthod of accounting for all business combinations. The main reasons are as follows :

1. Different Business combinations may involve differet type scenarios like existence of intangible assets, contigencies.

2. THe valuation of assets is on the basis of fair value of the assets. Fair value depends on perception of different participants.

3. It can be either the purchase of one or more copanies by an acquiring company ( Purchase or acquisition method) or it can be a case of pooling of interest where more than one company merge their business operations to form a new company ( ppoling of interest method or merger)

4. THe purchase method requires calculation & recording of of goodwill whereas in pooling of interests non new goodwill is recorded.

5. In purchase method assets are valued at fair market value & in Pooling of interests assets are recorded at historic value.

6. In merger 90 % or more shareholders continue to be shaeholders in the newly formed company whereas nder purchase method this may not be the case .

7. Under purchase method the acquirer can issue shares or stock towards the acquisition whereas in Pooling of interest the shareholders get only stock & no cash.

8. In merger the entire business & all assets & liabilities are merged whereas under purchase method the acquirer can acquire only certain assets & liabilities.

9. Underr acauistion there can be a possibility of hostile takeovers whereas this is not the case for mergers.

10.Acquisition by issue of stock can affect the profitability ratios for the acquirer whereas acquistion by issue of cash can affect the liquidity ratios for the new company. Pure cash deal will increase the liquidity ratios.

11. Valuation of the target company can be done by different methods like asset valuation, historical earning valution, fture earning valutaion , discounted cash flow valuation etc.

12. When the buyer buys the stock in the taret company then it tend to acauire all the risks associated with the target company. whereas when the buyer buys assets then it can mange to buy only the profitable assets & thereby gain the control over the target company.

13. Different buyers will have different resources available. sometimes buyer may have cash or other times the byer prefers to ppurchase stock from open market .


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