Chapter 4 — Long-Lived Assets to Be Disposed of Other Than by Sale

4.4 Spin-Offs and Other Nonmonetary Exchanges Recorded at Carrying Amount

ASC 360-10

Long-Lived Assets to Be Exchanged or to Be Distributed to Owners in a Spinoff

40-4 For purposes of this Subtopic, a long-lived asset to be disposed of in an exchange measured based on the recorded amount of the nonmonetary asset relinquished or to be distributed to owners in a spinoff is disposed of when it is exchanged or distributed. If the asset (asset group) is tested for recoverability while it is classified as held and used, the estimates of future cash flows used in that test shall be based on the use of the asset for its remaining useful life, assuming that the disposal transaction will not occur. In such a case, an undiscounted cash flows recoverability test shall apply prior to the disposal date. In addition to any impairment losses required to be recognized while the asset is classified as held and used, an impairment loss, if any, shall be recognized when the asset is disposed of if the carrying amount of the asset (disposal group) exceeds its fair value. The provisions of this Section apply to nonmonetary exchanges that are not recorded at fair value under the provisions of Topic 845.

The glossary in ASC 845-10-20 defines a nonreciprocal transfer as “a transfer of assets or services in one direction, either from an entity to its owners (whether or not in exchange for their ownership interests) or to another entity, or from owners or another entity to the entity. An entity’s reacquisition of its outstanding stock is an example of a nonreciprocal transfer.” By contrast, a reciprocal exchange involves an exchange of assets (or liabilities) or services with another entity. One example of a nonreciprocal transfer is a spin-off.

The ASC master glossary defines a spin-off as “[t]he transfer of assets that constitute a business by an entity (the spinnor) into a new legal spun-off entity (the spinnee), followed by a distribution of the shares of the spinnee to its shareholders, without the surrender by the shareholders of any stock of the spinnor.”

ASC 845-10

Nonreciprocal Transfers With Owners

30-10 Accounting for the distribution of nonmonetary assets to owners of an entity in a spinoff or other form of reorganization or liquidation or in a plan that is in substance the rescission of a prior business combination shall be based on the recorded amount (after reduction, if appropriate, for an indicated impairment of value) (see paragraph 360-10-40-4) of the nonmonetary assets distributed. Subtopic 505-60 provides additional guidance on the distribution of nonmonetary assets that constitute a business to owners of an entity in transactions commonly referred to as spinoffs. A pro rata distribution to owners of an entity of shares of a subsidiary or other investee entity that has been or is being consolidated or that has been or is being accounted for under the equity method is to be considered to be equivalent to a spinoff. Other nonreciprocal transfers of nonmonetary assets to owners shall be accounted for at fair value if the fair value of the nonmonetary asset distributed is objectively measurable and would be clearly realizable to the distributing entity in an outright sale at or near the time of the distribution.

According to ASC 845-10-30-10 above, if a company spins off a business to its shareholders, the assets transferred are recorded at their carrying amount (after any necessary impairment adjustments). In addition, similar treatment would generally be afforded to the pro rata distribution of shares of a legal entity, regardless of whether the legal entity is being consolidated or accounted for under the equity method. All other distributions of nonmonetary assets would typically be non–pro rata and hence would be considered more akin to a dividend-in-kind, which is generally recorded at the fair value of the assets transferred.

The assets being distributed to owners in a spin-off (i.e., the spinnee) must remain classified as held and used until the spin-off occurs. However, because a plan to dispose of assets before the end of their previously estimated useful life may be an indicator of impairment, an entity would be expected to consider whether the long-lived assets of the spinnee are impaired on a held-and-used basis. Because a spin-off is a nonreciprocal transfer (i.e., no consideration is received in exchange), ASC 360-10-40-4 provides specific guidance on testing the recoverability of the spinnee and explains that “the estimates of future cash flows used in that test shall be based on the use of the asset for its remaining useful life, assuming that the disposal transaction will not occur.”

Connecting the Dots

ASC 505-60-25-8 addresses whether a spin-off should be accounted for in accordance with its legal form (a “forward spin”) or as a “reverse spin” when the substance of the transactions differs from its legal form. There is a rebuttable presumption that a spin-off should be accounted for on the basis of its legal form (i.e., the legal spinnor is also the accounting spinnor). However, ASC 505-60-25-8 provides several indicators for an entity to consider when deciding whether the presumption to account for the transaction on the basis of its legal form should be overcome. No one factor should be considered determinative, so when the indicators are mixed, the entity will need to use judgment to determine which entity is the accounting spinnee. See Section 1.2.3 of Deloitte’s Roadmap Carve-Out Financial Statements for more information.

ASC 360-10-40-4 requires that an impairment loss be recognized if the carrying amount of the spinnee exceeds its fair value as of the date of the spin-off. After recognizing any impairment, the spinnor should derecognize the spinnee’s assets and liabilities on the date of the spin-off at their carrying amounts in the spinnor’s financial statements.

Bridging the GAAP

Under IFRS 5, a long-lived asset to be distributed to owners is measured at the lower of its carrying amount or fair value less costs to distribute in a manner similar to assets held for sale.

Questions have arisen about situations in which a spinnor disposes of a business in a spin-off before an initial public offering of the spinnor. In such cases, the spinnor should reflect the disposal as either (1) a disposal to which discontinued-operations reporting may or may not apply or, in limited circumstances, (2) a change in the reporting entity. If the disposal is reflected as a change in the reporting entity, the spinnee’s operations would be removed from the spinnor’s financial statements as if the spinnor never held the business. SAB Topic 5.Z.7 provides the SEC staff’s views on this topic.

SEC Staff Accounting Bulletins

SAB Topic 5.Z.7, Accounting for the Spin-Off of a Subsidiary [Reproduced in ASC 505-60-S99-1]

Facts: A Company disposes of a business through the distribution of a subsidiary’s stock to the Company’s shareholders on a pro rata basis in a transaction that is referred to as a spin-off.

Question: May the Company elect to characterize the spin-off transaction as resulting in a change in the reporting entity and restate its historical financial statements as if the Company never had an investment in the subsidiary, in the manner specified by FASB ASC Topic 250, Accounting Changes and Error Corrections?

Interpretive Response: Not ordinarily. If the Company was required to file periodic reports under the Exchange Act within one year prior to the spin-off, the staff believes the Company should reflect the disposition in conformity with FASB ASC Topic 360. This presentation most fairly and completely depicts for investors the effects of the previous and current organization of the Company. However, in limited circumstances involving the initial registration of a company under the Exchange Act or Securities Act, the staff has not objected to financial statements that retroactively reflect the reorganization of the business as a change in the reporting entity if the spin-off transaction occurs prior to effectiveness of the registration statement. This presentation may be acceptable in an initial registration if the Company and the subsidiary are in dissimilar businesses, have been managed and financed historically as if they were autonomous, have no more than incidental common facilities and costs, will be operated and financed autonomously after the spin-off, and will not have material financial commitments, guarantees, or contingent liabilities to each other after the spin-off. This exception to the prohibition against retroactive omission of the subsidiary is intended for companies that have not distributed widely financial statements that include the spun-off subsidiary. Also, dissimilarity contemplates substantially greater differences in the nature of the businesses than those that would ordinarily distinguish reportable segments as defined by FASB ASC paragraph 280-10-50-10 (Segment Reporting Topic).

All requirements in SAB Topic 5.Z.7 must be met for the spinnor to reflect the transaction as a change in the reporting entity. Depending on the extent of judgment an entity needs to use in applying SAB Topic 5.Z.7, as well as the significance of the judgment applied to the spinnor’s financial statements, an entity contemplating an initial public offering may consider consulting with the SEC staff on a prefiling basis.

If the spinnor presents a spin-off as a disposal, it must also assess whether the spin-off should be presented as a discontinued operation. Because the spinnee must be classified as held and used until the spin-off occurs, even if the spinnee is expected to meet the discontinued-operations reporting criteria, the spinnor cannot present the spinnee’s operations, including the direct costs of the spin-off, in discontinued operations until the shares are distributed to the owners.

Example 4-2

Company B, a public company, announced its intent to spin off one of its segments, Segment H, into a separate public company. Before its calendar year ending December 31, 20X8, B filed a Form 10 with the SEC and received approval from its board of directors and shareholders to distribute H to its shareholders in a spin-off. On December 27, 20X8, shares of B were traded as “ex-dividend.” The record date of distribution was January 2, 20X9, and the distribution date was January 6, 20X9.

Under ASC 360-10-40-4, the asset group that is to be distributed to owners in a spin-off is disposed of when it is distributed. Until the shares are distributed to the shareholders on January 6, 20X9, the asset group should continue to be classified as held and used and continue to be reported in continuing operations.

Example 4-3

Entity A will be split into three distinct operating companies (B, C, and D), each of which meets the definition of a business in ASC 805-10-20 (see Deloitte’s Roadmap Business Combinations). Entity A's shareholders will receive equal shares of B, C, and D in exchange for their shares in A.

In the first step, A forms three new operating companies and contributes the assets of the B, C, and D businesses, respectively, to each of the newly formed entities. This transaction represents a transaction between entities under common control, and A should account for the creation of the new operating companies at carrying value in accordance with ASC 805-50-30-5.

In the second step, A distributes to the shareholders a pro rata interest in the shares of B, C, and D and then is liquidated, effectively resulting in a pro rata split-up of A. In accordance with ASC 845-10-30-10, the pro rata split-up should be based on the recorded amounts of the nonmonetary assets distributed.

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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.