Chapter 3 — Identifying the Acquirer and Determining the Acquisition Date

3.1 Identifying the Acquirer

ASC 805-10

25-4 For each business combination, one of the combining entities shall be identified as the acquirer.

25-5 The guidance in the General Subsections of Subtopic 810-10 related to determining the existence of a controlling financial interest shall be used to identify the acquirer — the entity that obtains control of the acquiree. If a business combination has occurred but applying that guidance does not clearly indicate which of the combining entities is the acquirer, the factors in paragraphs 805-10-55-11 through 55-15 shall be considered in making that determination. However, in a business combination in which a variable interest entity (VIE) is acquired, the primary beneficiary of that entity always is the acquirer. The determination of which party, if any, is the primary beneficiary of a VIE shall be made in accordance with the guidance in the Variable Interest Entities Subsections of Subtopic 810-10, not by applying either the guidance in the General Subsections of that Subtopic, relating to a controlling financial interest, or in paragraphs 805-10-55-11 through 55-15.

55-10 Paragraph 805-10-25-5 provides that the guidance in the General Subsections of Subtopic 810-10 related to determining the existence of a controlling financial interest should be used to identify the acquirer in a business combination, except when a variable interest entity (VIE) is acquired. If a business combination has occurred but applying that guidance does not clearly indicate which of the combining entities is the acquirer, paragraph 805-10-25-5 requires the factors in paragraphs 805-10-55-11 through 55-15 to be considered in making that determination.

ASC 805-10-25-4 requires entities to identify an acquirer in every business combination. The ASC master glossary defines an acquirer as follows:

The entity that obtains control of the acquiree. However, in a business combination in which a variable interest entity (VIE) is acquired, the primary beneficiary of that entity always is the acquirer.

The entity identified as the acquirer for accounting purposes usually is the entity that transfers the consideration (e.g., cash, other assets, or its equity interests) to effect the transaction. However, in some business combinations, the entity that issues its equity interests (the “legal acquirer”) is determined for accounting purposes to be the acquiree (also called the “accounting acquiree”), while the entity whose equity interests are acquired (the “legal acquiree”) is for accounting purposes the acquirer (also called the “accounting acquirer”). Such transactions are commonly called reverse acquisitions. See Section 6.8 for more information.

In all cases, the entity identified as the accounting acquiree must meet the definition of a business (see Section 2.4) for the accounting acquirer to apply the acquisition method.

3.1.1 Identifying the Acquirer if the Acquiree Is a VIE

If the legal acquiree in a business combination is a VIE, the primary beneficiary of the VIE is considered the accounting acquirer in accordance with the guidance in ASC 805-10-25-5. Consequently, entities must consider whether the legal acquiree is a VIE on the basis of the guidance in ASC 810-10-15-14. To qualify as a VIE, a legal entity needs to have only one of the following characteristics:

The legal entity does not have sufficient equity investment at risk (see Section 5.2 of Deloitte’s Roadmap Consolidation — Identifying a Controlling Financial Interest).
The equity investors at risk, as a group, lack the characteristics of a controlling financial interest (see Section 5.3 of Deloitte’s Roadmap Consolidation — Identifying a Controlling Financial Interest). In this assessment, there are specific requirements for entities that are limited partnerships or similar legal entities such as limited liability companies with managing members. Some of these entities may be VIEs, depending on what voting rights are provided to limited partners in a limited partnership or to nonmanaging members for certain limited liability corporations (see Section 5.3.1.2 of Deloitte’s Roadmap Consolidation — Identifying a Controlling Financial Interest).
The legal entity is structured with disproportionate voting rights, and substantially all of the activities are conducted on behalf of an investor with disproportionately few voting rights (see Section 5.4 of Deloitte’s Roadmap Consolidation — Identifying a Controlling Financial Interest).

If any of these conditions are met, the legal acquiree is a VIE, and the primary beneficiary of the VIE (i.e., the legal acquirer) must be identified as the accounting acquirer.

3.1.2 Identifying the Acquirer if the Acquiree Is a Voting Interest Entity

If the acquiree in a business combination is a voting interest entity rather than a VIE, entities should first consider the guidance in the general subsections of ASC 810-10 related to determining the existence of a controlling financial interest to identify the accounting acquirer. In many cases, entities can clearly identify the accounting acquirer by applying that guidance. If they cannot, the identification of the accounting acquirer should be based on an evaluation of “pertinent facts and circumstances.” ASC 805-10-55-11 through 55-15 provide guidance to assist in this evaluation.

3.1.2.1 Business Combinations Effected Primarily by Transferring Cash or Other Assets or by Incurring Liabilities

ASC 805-10

55-11 In a business combination effected primarily by transferring cash or other assets or by incurring liabilities, the acquirer usually is the entity that transfers the cash or other assets or incurs the liabilities.

3.1.2.2 Business Combinations Effected Primarily by Exchanging Equity Interests

ASC 805-10

55-12 In a business combination effected primarily by exchanging equity interests, the acquirer usually is the entity that issues its equity interests. However, in some business combinations, commonly called reverse acquisitions, the issuing entity is the acquiree. Subtopic 805-40 provides guidance on accounting for reverse acquisitions. Other pertinent facts and circumstances also shall be considered in identifying the acquirer in a business combination effected by exchanging equity interests, including the following:

The relative voting rights in the combined entity after the business combination. The acquirer usually is the combining entity whose owners as a group retain or receive the largest portion of the voting rights in the combined entity. In determining which group of owners retains or receives the largest portion of the voting rights, an entity shall consider the existence of any unusual or special voting arrangements and options, warrants, or convertible securities.
The existence of a large minority voting interest in the combined entity if no other owner or organized group of owners has a significant voting interest. The acquirer usually is the combining entity whose single owner or organized group of owners holds the largest minority voting interest in the combined entity.
The composition of the governing body of the combined entity. The acquirer usually is the combining entity whose owners have the ability to elect or appoint or to remove a majority of the members of the governing body of the combined entity.
The composition of the senior management of the combined entity. The acquirer usually is the combining entity whose former management dominates the management of the combined entity.
The terms of the exchange of equity interests. The acquirer usually is the combining entity that pays a premium over the precombination fair value of the equity interests of the other combining entity or entities.

In a business combination effected primarily by exchanging equity interests, the identification of the accounting acquirer is based on an evaluation of pertinent facts and circumstances, including the following:

“The relative voting rights in the combined entity after the business combination” (ASC 805-10-55-12(a)) — see Section 3.1.2.2.1.
“The existence of a large minority voting interest in the combined entity” (ASC 805-10-55-12(b)) — see Section 3.1.2.2.2.
“The composition of the governing body of the combined entity” (ASC 805-10-55-12(c)) — see Section 3.1.2.2.3.
“The composition of the senior management of the combined entity” (ASC 805-10-55-12(d)) — see Section 3.1.2.2.4.
“The terms of the exchange of equity interests” (ASC 805-10-55-12(e)) — see Section 3.1.2.2.5.
The relative size of the combining entities (ASC 805-10-55-13) — see Section 3.1.2.3.
Other considerations — see Section 3.1.2.4.

3.1.2.2.1 Relative Voting Rights in the Combined Entity After the Business Combination

ASC 805-10

55-12(a) The relative voting rights in the combined entity after the business combination. The acquirer usually is the combining entity whose owners as a group retain or receive the largest portion of the voting rights in the combined entity. In determining which group of owners retains or receives the largest portion of the voting rights, an entity shall consider the existence of any unusual or special voting arrangements and options, warrants, or convertible securities.

When evaluating relative voting rights in the combined entity after a business combination, entities should consider the following:

All securities with voting rights — not just voting common shares.
Any unusual or special voting arrangements.
Options, warrants, and convertible securities.

Generally, the evaluation of relative voting interests should take into account any in-the-money options, warrants, or convertible securities that are vested and exercisable or convertible into voting interests as of the acquisition date. If any instruments are out-of-the-money but exercisable or convertible into voting shares as of the acquisition date, entities must use judgment in determining how the instruments affect the evaluation of relative voting interests. In making this determination, entities would most likely consider the following:

The extent to which the instruments are out-of-the-money.
The volatility of the underlying shares.
Expectations that the instruments will become in-the-money before their exercisability or conversion features expire.
The attributes of the instrument holders (e.g., board members, executive management, or a large minority voting interest holder in one of the combining companies).

Instruments that are not vested, exercisable, or convertible until after the acquisition date generally should not be considered in the evaluation of relative voting interests unless they will become exercisable or convertible shortly after the acquisition date. In addition, while some of an acquiree’s options, warrants, or convertible securities may be exchanged for voting securities as of the acquisition date, other similar securities of the acquiree or acquirer may remain outstanding, which could result in the subsequent issuance of voting securities in the combined entity. In such situations, entities should consider the specific facts and circumstances associated with these instruments.

In practice, as the ratio of relative voting rights in the combined entity deviates from 50:50, entities place increasing weight on this factor as an indicator of which combining entity is the accounting acquirer.

3.1.2.2.2 Existence of a Large Minority Voting Interest in the Combined Entity

ASC 805-10

55-12(b) The existence of a large minority voting interest in the combined entity if no other owner or organized group of owners has a significant voting interest. The acquirer usually is the combining entity whose single owner or organized group of owners holds the largest minority voting interest in the combined entity.

When evaluating the effect of minority voting interests in the combined entity on the identification of the accounting acquirer, entities should consider voting interests held both individually and as a part of an organized shareholder group. In practice, as the percentage of voting interests held by a single owner or organized group of owners increases, entities place additional weight on this factor as an indicator of which combining entity is the accounting acquirer, particularly if the voting interest includes additional rights beyond voting (e.g., entitlement to one or more positions on the combined entity’s governing body).

3.1.2.2.3 Composition of the Governing Body of the Combined Entity

ASC 805-10

55-12(c) The composition of the governing body of the combined entity. The acquirer usually is the combining entity whose owners have the ability to elect or appoint or to remove a majority of the members of the governing body of the combined entity.

While the accounting acquirer usually is the combining entity whose owners have the ability to elect, appoint, or remove a majority of the members of the combined entity’s governing body (i.e., its initial composition), the entity’s ability to affect subsequent corporate governance decisions might be limited by requirements for specified matters to be approved beyond a simple majority.

In addition, if the initial composition of the governing body is subject to change shortly after the business combination, entities should also consider how that composition might change. Changes might occur shortly after an acquisition because of the expected retirement of a member or a recurring or special election in which one or more current members may not be reelected.

In evaluating the composition of the governing body of the combined entity, entities might also consider the initial composition of its committees, the individuals who will serve as committee chairs, and whether each chair will hold any specific powers. In the absence of a nominating committee, entities might also evaluate the process for identifying future candidates for the governing body, especially if there may be a change in its composition shortly after the business combination.

Special consideration is warranted in circumstances in which the board of directors is required to include certain independent directors. For example, because such independent directors are often elected or appointed solely by one of the entities involved in the business combination, questions can arise regarding how to factor such directors into the ASC 805-10-55-12(c) assessment. In these situations, we generally consider an entity’s ability to elect or appoint or to remove independent directors as providing that entity with the power over those positions.

Example 3-1

Company A enters into an agreement to buy Company B and the parties agree that the combined entity’s board of directors will be composed of seven members — three elected or appointed by A (two of which must be independent) and four elected or appointed by B (two of which must be independent).

While four of the seven board members are deemed independent, perhaps suggesting that neither party controls the combined entity, we believe that when completing the ASC 805-10-55-12(c) assessment, B would be deemed to control the board by virtue of its ability to elect or appoint or to remove four of the seven members.

If there is an equal number of members and voting rights in the initial composition of the governing body, and matters are subject to majority approval, entities should consider the procedures established for resolving tie votes to determine whether the performance of such procedures would be among the pertinent facts and circumstances evaluated in the identification of the acquirer.

3.1.2.2.4 Composition of the Senior Management of the Combined Entity

ASC 805-10

55-12(d) The composition of the senior management of the combined entity. The acquirer usually is the combining entity whose former management dominates the management of the combined entity.

When evaluating the composition of the senior management of the combined entity, entities should consider the executive chairman of the board, the chief executive officer, the chief operating officer, the chief financial officer, and members of the executive committee, if one exists. Entities may also consider other positions such as division heads, if they represent senior management, on the basis of the organizational structure and the nature of the combined entity’s business. Typically, the roles and responsibilities of each position are more important in the evaluation than the relative number of senior management positions taken by the combining entity’s former management.

If the initial composition of senior management is subject to change shortly after the acquisition date, entities should also consider how that composition might change. Changes could be the result of scheduled retirements or planned reorganizations of management roles.

3.1.2.2.5 Terms of the Exchange of Equity Interests

ASC 805-10

55-12(e) The terms of the exchange of equity interests. The acquirer usually is the combining entity that pays a premium over the precombination fair value of the equity interests of the other combining entity or entities.

While the accounting acquirer usually is the combining entity that pays a premium over the precombination fair value of the equity interests of the other combining entity or entities, in certain cases it may be difficult to identify whether a premium is paid, because the combining entities’ precombination fair values are not readily determinable.

3.1.2.3 Consideration of the Relative Size of the Combining Entities

ASC 805-10

55-13 The acquirer usually is the combining entity whose relative size (measured in, for example, assets, revenues, or earnings) is significantly larger than that of the other combining entity or entities.

When evaluating the relative size of the combining entities, entities should consider the specific asset, revenue, and earning measures determined to be pertinent, which may vary on the basis of the combining entities’ industry. Entities may also identify one or more additional pertinent measures, such as operating cash flows. Further, entities must use judgment to determine which period(s) to evaluate and whether to consider future budgeted amounts (when available).

When comparing the combining entities’ relative size, entities should evaluate the effects of any differences between their accounting policies, capitalization, or histories (i.e., organic growth versus acquisitions) and the existence of any items deemed to be nonrecurring.

3.1.2.4 Other Considerations

If, after consideration of the factors in ASC 805-10-55-12 and 55-13, it is not clear which combining entity is the accounting acquirer, entities sometimes evaluate other evidence such as the following:

Which combining entity initiated the combination.
The name to be used for the combined entity.
The location of the combined entity’s headquarters.

Entities are expected to demonstrate the relevance of any other factors considered in the identification of the acquirer.

3.1.3 Evaluating Pertinent Facts and Circumstances in Identifying the Acquirer

While an evaluation of the pertinent facts and circumstances often results in the clear identification of one of the combining entities as the accounting acquirer, in some transactions the determination of the acquirer may be less straight-forward (i.e., some indicators point to one entity and others point to the other). Since ASC 805 does not specify a hierarchy or the weight to place on each fact and circumstance associated with the assessment, an entity may sometimes need to use judgment. In such cases, the SEC staff typically expects the entity’s disclosures to give financial statement users insight into how the accounting acquirer was determined (e.g., a description of the facts and circumstances deemed by the entity to be the most instructive in its identification of the accounting acquirer).

3.1.4 Business Combinations Involving More Than Two Entities

ASC 805-10

55-14 In a business combination involving more than two entities, determining the acquirer shall include a consideration of, among other things, which of the combining entities initiated the combination, as well as the relative size of the combining entities, as discussed in the preceding paragraph.

Even though a business combination is defined as a transaction or other event in which an entity obtains control of one or more businesses, some combinations are specifically within the scope of the business combinations guidance even if no one party obtains control. For example, in some roll-up or put-together transactions, more than two entities combine their businesses but none of the owners of the combining entities individually or as a group retains or receives a majority of the combined entity’s voting rights. ASC 805-10 requires that these transactions be accounted for as business combinations, as discussed in Section 2.2. Therefore, in such transactions, the factors in ASC 805-10-55-11 through 55-15 must be used to identify an acquirer.

3.1.5 Use of a New Entity Formed to Effect a Business Combination

ASC 805-10

55-15 A new entity formed to effect a business combination is not necessarily the acquirer. If a new entity is formed to issue equity interests to effect a business combination, one of the combining entities that existed before the business combination shall be identified as the acquirer by applying the guidance in paragraphs 805-10-55-10 through 55-14. In contrast, a new entity that transfers cash or other assets or incurs liabilities as consideration may be the acquirer.

A business combination may be effected by forming a new legal entity (commonly called a “newco”) to issue shares to the combining entities’ shareholders. ASC 805-10-55-15 precludes a newco that only issues equity instruments from being identified as the acquirer because it is deemed to have no economic substance. The newco is disregarded for accounting purposes, and one of the combining entities should be identified as the acquirer. The guidance in ASC 805-10-55-15 was carried forward from FASB Statement 141. In paragraph B100 of the Basis for Conclusions of Statement 141(R), the FASB explains why the IASB agreed with its rationale for such treatment:

The IASB also considered whether treating a new entity formed to issue equity instruments to effect a business combination as the acquirer would place the form of the transaction over its substance, because the new entity may have no economic substance. The formation of such entities is often related to legal, tax, or other business considerations that do not affect the identification of the acquirer. For example, a combination between two entities that is structured so that one entity directs the formation of a new entity to issue equity instruments to the owners of both of the combining entities is, in substance, no different from a transaction in which one of the combining entities directly acquires the other. Therefore, the transaction should be accounted for in the same way as a transaction in which one of the combining entities directly acquires the other. To do otherwise would impair both the comparability and the reliability of the information.

Example 3-2

Newco Only Issues Equity Interests and Is Not the Acquirer

Company A and Company B enter into an agreement to merge. Both A and B meet the definition of a business in ASC 805-10. Either A or B forms a new legal entity (Newco) to effect the combination. The former shareholders of A and B exchange their equity interests in A and B for equity interests in Newco, and A and B become subsidiaries of Newco. Newco is not a corporate joint venture.

Newco is newly formed to issue equity interests to effect the merger of A and B. Since the transaction was not the formation of a joint venture, under ASC 805-10-55-15, “one of the combining entities that existed before the business combination [A or B] shall be identified as the acquirer by applying the guidance in paragraphs 805-10-55-10 through 55-14.” The transaction described above is economically the same as a transaction in which either A or B directly acquires the other company in exchange for shares in the acquiring company.

In some cases, a newco may be identified as the acquirer if the newco is determined to have economic substance. An entity must often use judgment on the basis of an evaluation of the specific facts and circumstances to determine whether a newco is substantive. Note that in the evaluation of whether a newco has substance, it should not matter which entity (i.e., the buyer or the seller) created the newco. As discussed above, a newco that only issues equity interests to effect an acquisition would generally not be considered substantive (see the example above). However, a newco may be deemed to be substantive in the following circumstances:

It has substantive precombination operations or assets.
It engages in substantial precombination activities such as raising capital to fund an acquisition from third-party debt financing or from third parties in the public market (e.g., a SPAC).
It is actively involved in identifying acquisition targets, negotiating, or promoting acquisitions.
It had any ownership in the acquiree before the acquisition.

Some also believe that a newco has significant precombination activities if its parent or investors loan or contribute cash to the newco and that cash is used to fund the acquisition. However, others believe that having cash contributed by or loaned from the newco’s parent or investors to fund the acquisition does not constitute a substantive precombination activity and does not make the newco substantive (see Example 3-3).

In addition, some regard a newco that survives the transaction (i.e., a surviving newco) as substantive regardless of the significance of its precombination activities. However, a newco that does not survive the transaction (sometimes called a “transitory newco” or a “mergersub”) may be determined to be the acquirer if it is substantive (see Example 3-4).

If a newco is identified as the acquirer, the entity or entities that merge into the newco are the acquiree in a business combination, and the acquiree’s assets and liabilities are measured in accordance with the guidance in ASC 805, generally at their acquisition-date fair values.

Example 3-3

Surviving Newco Is Identified as the Acquirer

Company A forms a new legal entity, Newco, to effect the acquisition of Company B from an unrelated seller. Company B meets the definition of a business in ASC 805-10. Company A contributes cash to Newco in exchange for 90 percent of Newco’s issued shares. Newco transfers the cash and 10 percent of its issued shares to the seller in exchange for all of B’s outstanding shares. Newco is a surviving legal entity and is a reporting entity after the transaction. Company B becomes a subsidiary of Newco.

Immediately Before the Acquisition

Immediately After the Acquisition

ASC 805-10-55-15 states that “a new entity that transfers cash or other assets or incurs liabilities as consideration may be the acquirer.” We believe that it would be appropriate to identify Newco as the acquirer in this transaction since it survived the transaction and transferred cash to acquire the equity interests in B. In that case, Newco would apply acquisition accounting and recognize in its separate financial statements a new basis of accounting for B’s assets and liabilities. However, we acknowledge that ASC 805-10-55-15 is not clear and that some may believe that using the cash contributed by a parent or investor as consideration does not constitute a significant precombination activity. In addition, this transaction is economically the same as the transaction described in Example 3-4, in which no new basis is recognized because B does not elect to apply pushdown accounting.

Assume the same facts except that instead of A contributing cash to Newco, Newco obtains debt financing to fund the acquisition of B. Obtaining debt financing is often viewed as a significant precombination activity. In such a case, Newco would be identified as the acquirer.

Example 3-4

Transitory Newco Is Not Identified as the Acquirer

Company A forms a new legal entity, Newco, to effect the acquisition of Company B from an unrelated seller. Company B meets the definition of a business in ASC 805-10. Newco issues shares to the seller in exchange for 90 percent of B’s outstanding shares. Newco merges with and into Company B. Company B is the surviving legal entity and a reporting entity after the transaction.

Immediately Before the Acquisition

Immediately After the Acquisition

Because Newco only issued its equity to effect the acquisition, it is not deemed to be substantive and is not identified as the acquirer. In other words, Newco is disregarded and A is identified as the acquirer. Company A has obtained control of B and accounts for the transaction as a business combination. This transaction is effectively the same as one in which A acquires 90 percent of B’s shares directly from the seller. Because B elects not to apply pushdown accounting, it does not recognize a new basis of accounting for its assets and liabilities in its separate financial statements.

Assume the same facts except that Newco obtains debt financing to fund the acquisition of B. Obtaining debt financing is often viewed as a significant precombination activity. In such a case, Newco would be identified as the acquirer.

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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.