2.6 Contingent Consideration in a Business Combination
ASC 480-10
15-9 Subtopic 805-30 provides guidance on the recognition and initial measurement of consideration issued in a business combination, including contingent consideration.
15-10 However, when recognized, a financial instrument within the scope of this Topic that is issued as consideration (whether contingent or noncontingent) in a business combination shall be classified pursuant to the requirements of this Topic.
35-4A Contingent consideration issued in a business combination that is classified as a liability in accordance with the requirements of this Topic shall be subsequently measured at fair value in accordance with 805-30-35-1.
ASC 805-30 — Glossary
Contingent Consideration
Usually an obligation of the acquirer to transfer additional assets or equity interests to the former owners of an acquiree as part of the exchange for control of the acquiree if specified future events occur or conditions are met. However, contingent consideration also may give the acquirer the right to the return of previously transferred consideration if specified conditions are met.
In business combinations, the parties often agree to contingent consideration (i.e., consideration that depends on future events or conditions). Contingent consideration arrangements permit the parties to proceed with a business combination without agreeing on the final purchase price. For example, the acquirer may agree to deliver a specified number of its own equity shares if the acquiree’s earnings exceed a specified target in the year after the combination. Other examples of events that may trigger contingent consideration payments include reaching a specified stock price or achieving a milestone in a research and development project.
In determining the appropriate classification of a contingent consideration
arrangement, the acquirer considers the
classification guidance in ASC 480 and any other
applicable guidance (e.g., ASC 815-40). To measure
the arrangement, however, the acquirer applies ASC
805-30 instead of ASC 480. Contingent
consideration is part of the total consideration
transferred for the acquiree and must therefore be
measured and recognized at fair value as of the
acquisition date under ASC 805-30. ASC 805-30-35-1
provides guidance on how to recognize changes in
the fair value of contingent consideration other
than measurement-period adjustments. Contingent
consideration classified as equity is not
remeasured, and its settlement is recognized in
equity. Contingent consideration classified as an
asset or liability is remeasured to fair value in
each reporting period, with changes in fair value
recognized in earnings, unless it qualifies for
recognition in other comprehensive income under
the hedge accounting guidance in ASC 815 (which
would be unusual).
Under ASC 805, the acquirer recognizes as revisions to goodwill those adjustments made during the measurement period that pertain to facts and circumstances that existed as of the acquisition date. The acquirer must consider all pertinent factors in determining whether information obtained after the acquisition date should result in an adjustment to the provisional amounts recognized or whether that information stems from events that occurred after the acquisition date. For example, if earnings targets are met, share prices change, or FDA approvals are obtained after the acquisition date, resulting changes in fair value are recognized in earnings and not as adjustments to goodwill.