When the Financial Accounting Standards Board (FASB) defines a business, it’s not just a dictionary description. It affects every business when it’s sold or acquired and the accounting and other factors that surround such transactions.
It seems simple on its face: you buy a business, you’ve bought a business. Except, did you actually buy or sell a full-fledged business (a business acquisition), or is the sale or purchase being interpreted as the purchase of a building containing specific types of equipment (an asset acquisition).
Thus, the updated Accounting Standards Update (ASU) defines businesses for the purpose of determining if transactions are accounted for as business acquisitions or disposals of assets or businesses. Technically designated the “Update 2017-01—Business Combinations (Topic 805),” the ASU goes into effect Dec. 15, 2017 for public business entities’ annual periods, “including interim periods within those periods,” says FASB. For all other entities, Dec. 15, 2018 is the start date.
Among the affected are those involved in these transactions, including:
- businesses or owners of assets being acquired or sold;
- financial statement preparers;
- merger and acquisition consultants; and
- merger and acquisition attorneys.
Different accounting elements go into determining valuations, costs, taxes, etc., when a business is bought or sold. Therefore, depending on the identification as a business or asset acquisition the effect can be profound on who pays how much for what and how it’s reported for tax purposes.
Business activity components affected by the updated ASU are:
- acquisitions (the actual purchase or sale),
- disposals (income statement declaration of gain or loss),
- goodwill (intangible assets), and
- consolidation (merging through acquisition smaller companies into a larger one)
For Example: In an acquisition or sale, “goodwill” is an intangible asset: its customer relations; brand awareness; employee satisfaction; and proprietary processes or technology add value but aren’t identifiable as a cost or expense in the same manner as a vehicle or a building. Therefore the definition of a business – and a more precise identification of exactly what is being bought or sold – was needed for this reason and others, the FASB believed.
In its explanation of what drive the updated ASU, the FASB said,
“Many stakeholders provided feedback that the definition of a business in Topic 805, Business Combinations, is applied too broadly, resulting in many transactions being recorded as business acquisitions that to them are more akin to asset acquisitions. In addition, stakeholders said that analyzing transactions under the current definition is difficult and costly.”
“The new standard addresses this by clarifying the definition of a business while reducing the cost and complexity of analyzing these transactions.”
The considerations of these transactions are substantial. A solid professional evaluation of a proposed transaction by professionals well-versed in the FASB definitions, topics, and sub-topics, is in a business’s best interest, whatever side of the transaction it’s on.