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What Is Acquisition in Accounting?

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Last editedMar 20222 min read

When one company purchases the majority stake in another, this transaction must be recorded for accounting purposes. There are specific reporting guidelines to follow in Australia – so what is the acquisition process in accounting? Here’s how to keep your balance sheet in order.

What is an acquisition?

First things first – what does acquisition mean in the world of financial accounting? When one company purchases another, this is referred to as an acquisition. The acquiring company must purchase over 50% of a target company’s stock and assets to gain control. In some cases, the acquirer will purchase the full share, while in others it will merely purchase a controlling majority. This process may or not take place with the target company’s consent.

Acquisition in accounting explained

Acquisition in accounting refers to how the acquired shares and assets are recorded in financial statements. In addition to assets, your business will also need to report things like non-controlling interest, liabilities, and goodwill. Another factor that weighs into the equation is the fair market value. Acquisition accounting is the set of guidelines used to report all of these various factors on the company’s balance sheet.

The Australian Accounting Standards sets out the guidelines that companies must follow for recognition and reporting. In the case of acquisition accounting, the International Financial Reporting Standards (IFRS) 3: Business Combinations is the accounting standard that companies should use.

What is acquisition cost in accounting?

To figure out the acquisition cost in accounting, you’ll need to work out each aspect of the acquisition according to its fair market value. Fair market value is the amount that a neutral third-party buyer could be expected to pay on an open market.

To calculate the total value or acquisition cost, you need to calculate the fair market value of each element below:

  • Tangible assets and liabilities like property, machinery, and equipment

  • Intangible assets and liabilities like patents, branding, and trademarks

  • Non-controlling interest including shareholders without decision-making ability

  • Consideration paid to seller including any promise of future payments

  • Goodwill including what remains after the buyer has calculated the rest of the transaction value. In other words, if the purchase price is higher than the value of recorded assets, this would be recorded as goodwill on the balance sheet.

What is acquisition process in accounting?

With a straightforward asset acquisition, you would record the fair value of each asset individually on your financial statements. However, when you combine businesses through an acquisition you need to apply the acquisition method. So, what is acquisition process in accounting? Here are the steps to follow, as set out in IFRS 3 regulations.

  1. Identify the acquirer: This will be the business that gains control over the other business.

  2. Identify the acquisition date: This is the date that the acquiring business legally obtains control over the acquired business. Usually this will be listed as the closing date in any contracts, or the date that the acquirer legally takes control over the assets and liabilities.

  3. Measure consideration: Consideration refers to any deferred payments the buyer agrees to make to the acquired company, such as future payment of shares or other profits.

  4. Measure assets and liabilities: This includes both tangible and intangible assets and liabilities, as defined above.

  5. Measure goodwill: To calculate goodwill, you must add consideration to noncontrolling interest, subtracting assets and adding liabilities.

If the figure is negative, this means you’ve paid less than fair value for the company acquisition. The purchase would then need to be recorded on your financial statements as a gain, because you purchased it for less than it was worth.

The bottom line

From goodwill to fair market value, there are many different accounting practices that go into calculating and recording acquisitions. What’s most important to remember in acquisition accounting is that you need to look at the big picture – not only the current tangible assets and liabilities, but also any considerations including deferred payments. When in doubt, it’s best to refer to the IFRS rules for clarity to keep your balance sheet accurate.

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