Acquiring entities are required to measure contract assets and liabilities acquired in a business combination in accordance with FASB's Topic 606 revenue recognition guidance, according to a new FASB standard issued Thursday.
To eliminate diversity in practice, FASB issued Accounting Standards Update No. 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities From Contracts With Customers.
The new standard requires an acquirer to account for revenue contracts acquired in a business combination in accordance with Topic 606 as if it had originated the contracts. The acquirer may assess how the acquiree applied Topic 606 to determine what to record for the acquired contracts.
This should lead to recognition and measurement consistent with what's reported in the acquiree's financial statements, provided that the acquiree prepared financial statements in accordance with GAAP.
When the acquirer is unable to assess or rely on the acquiree's application of Topic 606, the standard says that to determine what should be recorded at the acquisition date, the acquirer should:
- Consider the terms of the acquired contracts, such as timing of payment;
- Identify each performance obligation in the contracts; and
- Allocate the total transaction price to each identified performance obligation on a relative stand-alone selling price basis as of contract inception (the date the acquiree entered into the contracts) or contract modification.
The new standard marks a change from current GAAP, under which assets and liabilities acquired in a business combination, including contract assets and contract liabilities arising from revenue contracts, are generally recognized at fair value at the acquisition date.
The standard also provides practical expedients for acquirers when recognizing and measuring acquired contract assets and contract liabilities from a business combination.
The amendments apply to contract assets and contract liabilities from other contracts within the scope of Topic 606, such as contract liabilities from the sale of nonfinancial assets within the scope of Subtopic 610-20, Other Income — Gains and Losses From the Derecognition of Nonfinancial Assets.
These amendments do not affect the accounting for other assets or liabilities that may arise from revenue contracts with customers in accordance with Topic 606, such as refund liabilities; or in a business combination, such as customer-related intangible assets and contract-based intangible assets.
For example, if acquired revenue contracts are considered to have terms that are unfavorable or favorable relative to market terms, the acquirer should recognize a liability or asset for the off-market contract terms at the acquisition date.
"The new ASU provides specific guidance on how to recognize and measure contract assets and contract liabilities related to revenue contracts with customers acquired in a business combination," FASB Chair Richard Jones said in a news release. "This will align the accounting for these acquired contracts to the accounting for revenue contracts originated by the acquirer and will provide more comparable information to investors and other financial statement users seeking to better understand the financial impact of these acquisitions."
The new standard takes effect for public business entities for fiscal years beginning after Dec. 15, 2022, including interim periods within those fiscal years. For all other entities, the amendments take effect for fiscal years beginning after Dec. 15, 2023, including interim periods within those fiscal years. The amendments should be applied prospectively to business combinations occurring on or after the effective date of the amendments.
Early adoption is permitted, including adoption in an interim period. An entity that early adopts during an interim period should apply the amendments:
- Retrospectively to all business combinations for which the acquisition date occurs on or after the beginning of the fiscal year that includes the interim period of early application; and
- Prospectively to all business combinations that occur on or after the date of initial application.
— Ken Tysiac (Kenneth.Tysiac@aicpa-cima.com) is the JofA's editorial director.