Chapter 9 — Accounting by the Joint Venture After Adopting ASU 2023-05

9.4 Initial Measurement for the Joint Venture

ASC 805-60

30-1 A joint venture shall measure its identifiable assets and liabilities, and any noncontrolling interest, recognized at the formation date in accordance with Subtopic 805-20.

30-2 A joint venture shall apply the guidance in this paragraph to measure goodwill, when applicable. A joint venture shall recognize goodwill, if any, upon formation, measured as the excess of (a) over (b):

The formation-date fair value of the joint venture as a whole. The formation-date fair value of the joint venture as a whole shall equal the fair value of 100 percent of the joint venture’s equity (net assets) immediately following formation (including any noncontrolling interest in the net assets recognized by the joint venture).
The net of the formation-date amounts of the identifiable assets and liabilities recognized by the joint venture and measured in accordance with Subtopic 805-20.

30-3 Upon formation, a joint venture shall recognize the amount of its identifiable net assets recognized in excess of the fair value of the joint venture as a whole, if any, as an adjustment to additional paid-in capital (or other similar equity account, such as members’ equity).

9.4.1 Identifiable Assets and Liabilities, Noncontrolling Interests, and Goodwill

Joint ventures are required to measure identifiable assets and liabilities and any noncontrolling interests in accordance with ASC 805-20. That guidance defines the recognition and measurement principles for an acquirer in a traditional business combination and further requires that such items be measured at their acquisition-date fair values. Therefore, on the formation date (see Section 9.3.1), the joint venture’s measurement of its total net assets would be “equal [to] the fair value of 100 percent of [its] equity” in accordance with ASC 805-60-30-2(a).

ASC 805-20 also provides certain fair value measurement exceptions for items such as income taxes, employee benefits, indemnification assets, reacquired rights, and share-based payment awards. (For a full detailed list, see Chapter 4 of Deloitte’s Roadmap Business Combinations.)

Since ASC 805-60 requires a joint venture to apply the recognition and measurement principles under ASC 805-20, the same exceptions should be applied to joint venture formation measurement in the absence of specific measurement guidance.

9.4.1.1 Goodwill

Goodwill recognized by the joint venture and accounted for in accordance with ASC 805-60 is conceptually similar to goodwill recognized by the accounting acquirer in accordance with ASC 805-30; the primary difference in recognition is related to the lack of consideration exchanged in a joint venture formation. This is because venturers receive net asset contributions (which may be nonmonetary) while the acquirer in a business combination transfers consideration in exchange for net assets assumed. Accordingly, goodwill is recognized upon the formation of a joint venture when the formation-date fair value of the joint venture’s equity as a whole (net assets, including any noncontrolling interest) is greater than the value of the identifiable assets and liabilities measured in accordance with ASC 805-20.

As stated previously, ASU 2023-05 applies to both joint ventures that meet the definition of a business and those that do not. While the ASU does not preclude a joint venture from recognizing goodwill if it does not meet the definition of a business, the FASB states in paragraph BC48 of the ASU that “it will be unusual that an entity simultaneously (a) meets the definition of a joint venture, (b) has [goodwill], and (c) is not a business.” Further, the Board expects that before recognizing goodwill, the joint venture will ensure that it has “correctly identified all of the contributed identifiable net assets and that all available information as of the formation date has been considered when measuring those identifiable net assets and the joint venture as a whole.”

Negative goodwill (i.e., a bargain purchase gain) is recognized when the fair value of the joint venture’s equity as a whole (net assets, including any noncontrolling interest) is less than the value of the identifiable assets and liabilities measured in accordance with ASC 805-20. As indicated in ASC 805-60-30-3, any negative goodwill should be recorded “as an adjustment to additional paid-in capital (or other similar equity account, such as members’ equity).” This treatment is a similar to the accounting for a bargain purchase gain on an acquiree’s financial statements in a business combination under ASC 805-50-30-11. It is expected to be very rare that negative goodwill will be present in a joint venture formation. Paragraph BC48 of ASU 2023-05 indicates that before recording goodwill or negative goodwill, a joint venture should ensure that it has “correctly identified all of the contributed identifiable net assets and that all available information as of the formation date has been considered when measuring those identifiable net assets and the joint venture as a whole.” See Section 5.2 of Deloitte’s Roadmap Business Combinations for further discussion of situations that may lead to a bargain purchase gain (or in the case of a joint venture, negative goodwill).

9.4.2 Measurement Period

As contemplated in ASC 805-60-25-14, it is expected that there will be scenarios in which “the initial accounting for a joint venture formation is incomplete by the end of the reporting period in which the formation date occurs.” In such instances, the joint venture may use the measurement period guidance that exists for the accounting acquirer in business combinations. The measurement period allows a joint venture to record a provisional amount for items in which the accounting is incomplete. A provisional amount would reflect the entity’s best estimate of the fair value (or other measurement required by ASC 805) of the asset or liability on the basis of the information available. Section 6.1 of Deloitte’s Roadmap Business Combinations includes further consideration of the measurement period under ASC 805-10.

Note that if the initial accounting for a joint venture formation is incomplete, joint ventures are required to provide further disclosures under ASC 805-60-50-3. These disclosure requirements are discussed in Section 9.6.

9.4.3 Other Initial Measurement Matters

9.4.3.1 Identifying Transactions Outside the Joint Venture Formation

ASC 805-60

25-6 A joint venture and its owners (the venturers) may enter into an arrangement upon formation that is separate from the formation of the joint venture. For example, a joint venture may enter into an arrangement with a venturer to compensate the venturer or others (such as employees of the venturers) for future services. A joint venture shall apply the guidance in paragraphs 805-10-55-24 through 55-26 when determining whether a transaction involving payments to be made by the joint venture to the venturers or others is separate from or part of a joint venture formation. A joint venture shall identify any amounts that are separate from the formation of the joint venture and shall recognize the identifiable assets and liabilities that are determined to be part of the joint venture formation. Separate transactions shall be accounted for in accordance with other relevant GAAP.

25-7 A joint venture shall not apply by analogy the guidance in paragraphs 805-10-55-20 through 55-23 (for a transaction that in effect settles preexisting relationships between the acquirer and the acquiree) or paragraph 805-10-25-23 (for acquisition-related costs and transactions that reimburse the acquiree or its former owners for paying the acquirer’s acquisition-related costs).

25-8 If, upon formation, a joint venture issues share-based payment awards to replace awards held by grantees of the contributed entities, then the joint venture shall apply the guidance in paragraphs 805-30-30-9 through 30-13 to allocate the fair-value-based measure of replacement share-based payment awards between preformation vesting and postformation compensation cost. Paragraphs 805-60-55-2 through 55-14 provide illustrations of the accounting for the issuance of replacement share-based payment awards in a joint venture formation.

25-9 For the purposes of applying the business combinations guidance on arrangements that include contingent payments to employees or selling shareholders and replacement share-based payment awards referenced in paragraphs 805-60-25-6 through 25-8:

The joint venture shall be viewed as analogous to the acquirer in a business combination.
The venturers shall be viewed as analogous to the selling shareholders.
The recognized businesses and/or assets shall be viewed as analogous to an acquiree.

Entities will need to use judgment to determine whether certain arrangements between the venturers and the newly formed joint venture are part of the joint venture formation or if they are separate transactions. To aid in the determination of whether certain arrangements should be accounted for separately from or as part of a joint venture formation, the Board provided guidance in ASC 805-60-25-6 through 25-9.

Paragraph BC54 of ASU 2023-05 notes that “there are several scenarios in which the joint venture may be required to provide payment to its venturers contingent either upon the provision of goods or services to the joint venture or upon the outcome of a future event.” For those types of arrangements, a joint venture should apply the guidance in ASC 805-10-55-24 through 55-26 when determining whether the transaction is separate from or part of the joint venture formation.

However, as noted in ASC 805-60-25-7, the accounting for joint ventures and business combinations will differ with respect to settling preexisting relationships and acquisition-related costs. As previously mentioned, a joint venture’s history begins as of the formation date; therefore, a joint venture cannot be a party to a relationship that predates its existence or formation. Likewise, in a joint venture formation, there is no formal accounting acquirer and, therefore, it is not appropriate to apply the guidance in ASC 805-10 on the accounting for acquisition-related costs. Costs incurred by the venturers should be expensed as incurred and, as discussed in Section 8.4.4, any start-up costs incurred by the joint venture should also be expensed as incurred under ASC 720-15-25-1.

9.4.3.2 Share-Based Payment Awards

ASC 805-60

Instruments, Contracts, and Share-Based Payment Awards Classified as Equity

30-4 The amount of any separately recognized equity-classified instruments or contracts issued by a joint venture as part of the formation transaction, other than equity-classified replacement share-based payment awards (see paragraph 805-60-30-5), shall be accounted for as a reallocation of additional paid-in capital (or other similar equity account, such as members’ equity) and shall not affect the total amount of equity or goodwill recognized by the joint venture upon formation.

30-5 A joint venture shall initially measure equity-classified replacement share-based payment awards at the fair-value-based measurement method described in Topic 718 on stock compensation. The fair-value-based amount allocated to preformation vesting (in accordance with paragraph 805-60-25-8) of any replacement share-based payments classified as equity shall be recognized as a reallocation of additional paid-in capital (or other similar equity account, such as members’ equity) and shall not affect the total amount of equity or goodwill recognized by the joint venture upon formation.

Liability-Classified and Asset-Classified Contingent Payments and Replacement Share-Based Payment Awards

30-6 A joint venture shall initially measure any contingent payment arrangements between the joint venture and its venturers that are classified as liabilities (or assets), other than replacement share-based payment awards, in accordance with paragraph 805-60-30-1. A joint venture shall not account for those arrangements generated as a result of the joint venture formation as contingent consideration or as an assumed contingent consideration arrangement.

30-7 A joint venture shall initially measure liability-classified replacement share-based payment awards using the fair-value-based measurement method described in Topic 718 on stock compensation (consistent with the requirements in paragraphs 805-60-25-8 and 805-60-30-1).

A joint venture that issues equity-classified instruments or contracts as part of its formation should account for these instruments as a reallocation of equity rather than a change in the total amount of equity or goodwill that is recognized by the joint venture upon formation. This does not include share-based payment awards that are issued to replace awards held by the grantees of the contributed entities. Such share-based payment awards should be measured at fair value in accordance with ASC 718, and the fair value is allocated between preformation vesting and postformation compensation cost on the basis of the guidance in ASC 805-30-30-9 through 30-13. The amount allocated to preformation vesting should be treated as a reallocation of equity rather than a change to total equity or goodwill. Note that a joint venture will apply the guidance in ASC 718 to determine whether the share-based payments should be classified as liabilities or equity.

ASC 805-60 provides an illustrative example of the accounting for replacement share-based payment awards, which is reproduced below.

ASC 805-60

Example 1: Joint Venture Replacement Share-Based Payment Employee Awards

55-2 On January 1, 20X0, a newly formed corporation with no assets or liabilities, New Venture, receives contributions of a controlling financial interest in Business A (90 percent voting interest) from Venturer 1 and Business B (100 percent voting interest) from Venturer 2 and, in exchange, issues 50 common shares to each Venturer 1 and Venturer 2. Assume that New Venture has no other classes of equity or any other equity instruments outstanding before receiving the contributions. It is determined that New Venture first met the definition of a joint venture on January 1, 20X0. New Venture determines January 1, 20X0, to be its formation date.

55-3 In accordance with paragraph 805-60-30-2, but before consideration of any liabilities for share-based payments, New Venture determines that the fair value of the joint venture as a whole is $100 million including a noncontrolling interest (10 percent voting interest) in Business A that is owned by an outside entity. It also determines, in accordance with paragraph 805-60-30-2, that the formation-date fair value of the identifiable assets is $120 million, the fair value of the liabilities is $40 million, and the fair value of the noncontrolling interest in Business A is $5 million.

55-4 Upon formation, New Venture exchanges replacement awards that require one year of postformation vesting for share-based payment awards of Business A for which employees had not yet rendered all of the required services as of the formation date. The fair-value-based measure of both awards (the original awards and the replacement awards) is $20 million at the formation date. When originally granted, the awards of the contributed business had a requisite service period of four years. As of the formation date, the contributed business’s employees had rendered two years’ service, and they would have been required to render two additional years of service after the formation date for their awards to vest. Accordingly, only a portion of the contributed business’s awards is attributable to preformation vesting.

55-5 The replacement awards require only one year of postformation vesting. Because employees have already rendered two years of service, the total requisite service period is three years. For simplicity, assume that New Venture estimates that there will be no forfeitures of the replacement share-based payment awards. The portion attributable to preformation vesting equals the fair-value-based measure of the contributed business’s award ($20 million) multiplied by the ratio of the preformation vesting period (2 years) to the greater of the total service period (3 years) and the original service period of the contributed business’s award (4 years). Thus, $10 million ($20 million × 2 ÷ 4 years) is attributable to preformation vesting and, therefore, New Venture’s additional paid-in capital upon formation. The remaining $10 million is attributable to postformation vesting and therefore recognized as compensation cost in New Venture’s postformation financial statements in accordance with Topic 718 on stock compensation.

55-6 New Venture applies the guidance in Topic 718 to determine whether the share-based payments should be classified as liabilities or equity.

Case A: Joint Venture Replacement Share-Based Payment Employee Awards Are Liability Classified

55-7 If New Venture determines that the replacement share-based payment awards are classified as liabilities, then total liabilities will equal $50 million ($40 million + $10 million). For simplicity, when taking the share-based payment liabilities into account, the fair value of New Venture as a whole is $90 million ($100 million – $10 million).

55-8 New Venture calculates goodwill as follows (in millions), consistent with the guidance in paragraph 805-60-30-2. The formation-date fair value of the joint venture as a whole is equal to the fair value of 100 percent of the joint venture’s equity (net assets) immediately following formation (including any noncontrolling interest in the net assets recognized by the joint venture).

55-9 New Venture calculates additional paid-in capital as follows (in millions).

55-10 New Venture records the following entry at the formation date (in millions).

Case B: Joint Venture Replacement Share-Based Payment Employee Awards Are Equity Classified

55-11 If New Venture determines that the replacement share-based payment awards are classified as equity, then total liabilities will equal $40 million and the fair value of New Venture as a whole is $100 million.

55-12 New Venture calculates goodwill as follows (in millions), consistent with the guidance in paragraph 805-60-30-2. The formation-date fair value of the joint venture as a whole is equal to the fair value of 100 percent of the joint venture’s equity (net assets) immediately following formation (including any noncontrolling interest in the net assets recognized by the joint venture).

55-13 New Venture calculates additional paid-in capital, excluding additional paid-in capital attributable to share-based payments, as follows (in millions).

55-14 New Venture records the following entry at the formation date (in millions).

9.4.3.3 Contingent Payment Arrangements

A joint venture formation may involve an arrangement that is similar to a contingent consideration arrangement entered into as part of a business combination. For example, upon formation, a joint venture might promise to make payments or issue additional equity interests to a venturer that are contingent upon the performance of the assets or businesses contributed by that venturer. Since a joint venture’s total net assets are measured on the basis of the joint venture as a whole upon formation — and not based upon consideration transferred — it may be difficult to identify contingent consideration arrangements as defined in a business combination. ASC 805-60-30-6 requires that a joint venture measure any contingent payment arrangements as an asset or liability in accordance with ASC 805-20. Thus, the joint venture would account for a contingent payment arrangement as a typical contingent asset or liability rather than applying the guidance in ASC 805-30 that is specific to contingent consideration recognized in a business combination.

9.4.3.4 In-Process Research and Development

IPR&D contributed to a joint venture as of the formation date must be recognized by the joint venture as an indefinite-lived intangible asset under ASC 350 regardless of whether the asset has an alternative future use. As a result, IPR&D assets are accounted for in the same manner as if they had been acquired in a business combination.

Confidential and Proprietary — for Use Solely by Authorized Personnel

This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.