Accounting for business combinations, such as acquisitions and mergers, is set for a shake up in the US, and the softer option of pooling of interest accounting could be outlawed altogether. The news came in a quarterly update from the Financial Accounting Standards Board, the primary standard setter in the US. FASB has just made public its initial ideas on purchased goodwill, one of the more controversial aspects of acquisition accounting, while simultaneously declaring that the entire area of business combinations is up for review this quarter. Purchased goodwill is created in the cash acquisition of another company when the buyer pays more than the fair value of the net assets acquired (normal when a successful business is bought). Acquisitive companies dislike purchased goodwill because it has to be amortized, creating an invisible expense which drags down earnings. To avoid it wherever possible, companies make acquisitions using stock, hence qualifying for pooling of interest accounting. Alternatively, one off charges are used to reduce goodwill, such as the write off of ‘in process’ research and development. Addressing these issues, FASB says it wants to alter the definition of goodwill, tightening up on what it must include, but allowing companies to split out the non-cash amortization charges on the face of the profit and loss account. This would enable analysts to calculate earnings per share prior to goodwill amortization, making acquisition accounting more attractive to the purchaser. Kim Petrone, FASB Manager for the business combinations project, also said that the widely abused trick of writing off in process research and development upon acquisition would be closely scrutinized. No detail is available yet on FASB’s plans for the broader framework of business combinations, but Petrone did imply that pooling of interests accounting could disappear altogether. Alternatively, it may be restricted as it is in the UK, to genuine mergers where both parties are of a comparable size.
