Accounting for Stock Purchase vs. Asset Purchase

There are several ways for one company to acquire another, either partially or in full. Among the available options, the acquirer can purchase the target company’s stock but may prefer to buy the target’s assets instead. These two strategies have different advantages, disadvantages and accounting practices.

In an asset purchase, the acquirer buys some or all of the target company’s assets. The assets may be tangible, such as production plants and equipment, and intangible, such as patents and copyrights. The acquirer pays for the purchase with “consideration,” which can include cash, debt, securities and other assets.

For simplicity’s sake, imagine that Company T, the target company, has two assets: a manufacturing plant and a patent. The plant (a long-term tangible asset) has a fair market value (FMV) of $7 million, and the patent, an intangible asset, is fairly valued at $2 million. Company T’s book value of the plant is $5.5 million following several years of depreciation.

After performing due diligence, an acquiring company (Company A) concludes an asset purchase agreement to buy the properties of Company T for a $10 million purchase price. The new owner would record debits for each asset and credits for the consideration it paid.

The difference between the price paid and the assets’ fair value, $1 million, is recorded as goodwill, an intangible asset resulting from the asset sale, according to Acquistion.gov.

The Company A accountant might record the following (DB is debit, CR is credit):

• DB Plant and Equipment: $7M
• DB Patents: $2M
• DB Goodwill: $1M
• CR Cash:

$6M * CR Long-Term Debt:

$4M

In this case, the acquirer did not assume any of the target company’s liabilities.

After the purchase, the plant is subject to depreciation like any other of Company A’s fixed assets. Because the patent is intangible, it will be subject to amortization over its useful life rather than depreciation. Company A is a public corporation, so it cannot amortize its goodwill.

The difference between the plant’s FMV and its Company T book value of $1.5 million ($7 million minus $5.5 million) creates a stepped-up tax basis on Company A’s balance sheet, which records the plant value as $7 million. Company A receives tax benefits from the step-up because of the additional tax-deductible depreciation.

If the plant’s FMV were $10 million instead of $7 million, the Total FMV of the purchase would be $12 million ($10 million for the plant plus $2 million for the patent). Company A’s $10 million purchase would be for less than the assets’ FMV. It would record a $2 million credit (Total FMV minus Consideration) to Gain on Bargain Purchase (an income statement account) instead of the $1 million debit to Goodwill (a balance sheet account).

Impairment occurs when an asset’s FMV falls below its book value. In the original example, suppose changes in demand shortly after the purchase reduced the FMV of the plant and the patent by 50 percent. Company A would record the following:

• DB Plant Impairment Loss:
  $3.5M
• DB Patent Impairment Loss:
  $1M
• CR Goodwill:

$1M * CR Accumulated Impairment: $3.5M

The debits appear on Company A’s income statement, but the credits are reported on the balance sheet. The new balance on the Goodwill account is $0.

A company can acquire another company by purchasing most or all of its stock directly from shareholders, a process known as a tender or buyout. It differs from an asset purchase in a few ways, including:

• The buyer assumes ownership of the target’s assets ‌and‌ liabilities.
• The buyer may have to contend with holdouts who do not want to sell their shares.
• The accounting treatment is different.

Suppose Company A buys all the outstanding Company T stock, with a current market value of $20 million, for $25 million in cash. In this case, the entries are:

• DB Plant and Equipment:
  $7M
• DB Patents:

$2M * DB Goodwill:

$16M * CR Cash:

$25M

There are several advantages of an asset purchase. An asset buyer can cherry-pick which assets to purchase and, according to Sam Houston State University, can ignore liabilities. Due to additional depreciation, the buyer also receives favorable tax treatment on any stepped-up basis of the assets. Buyers don’t have to worry about recalcitrant minority stockholders or complex securities regulations.

Purchases made through stock tender offers also have advantages. They do not require retitling of assets or permission to receive nonassignable contracts, licenses and permits. A stock purchase may qualify for a tax-free reorganization, and the entire transaction may be less complex than an asset purchase. However, stock purchasers do not benefit from stepped-up asset values, the price may be considerably higher and minority shareholders may not wish to participate in the stock sale.