Master the complexities of acquisition accounting through understanding the intricacies of purchase accounting, equity method, and consolidation method. Gain an in-depth understanding of how these methods are applied in M&A accounting, their impact on financial statements, and their role in financial modeling.
Key Insights
- Acquisition accounting involves various complex methods, making it challenging for analysts and associates.
- Purchase accounting, prescribed under US GAAP and IFRS, is commonly used in handling acquisitions.
- The Equity Method, another approach to M&A accounting, is applied when an investor has significant influence without control over the investee, typically through a 20-50% stake purchase.
- Under the Equity Method, an investor reports the revenue earned by the other company in proportion to its equity investment.
- Consolidation is another M&A accounting method used when the investor has control over the investee, typically through over 50% stake ownership. This requires including all subsidiaries' revenue, loss, assets, and liabilities in the parent company's financial statements.
- The content further delves into the nuances of both the Equity Method and Consolidation.
Valuation Methods
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DCF
Project free cash flows, discount at WACC.
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Comparable Companies
EV/EBITDA, P/E from public peers.
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Precedent Transactions
Multiples from recent M&A in the industry.
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LBO Analysis
What sponsor could pay and hit return targets.
Acquisition accounting has always been a challenge for analysts and associates. I think it’s partly because the presentation of purchase accounting (the method prescribed under US GAAP and IFRS for handling acquisitions) in financial models conflates several accounting adjustments.
There are two ways a company would handle M&A accounting.
First would be an Equity Method, which is applied when an investor has a significant influence but not control over the investee (usually a purchase of 20-50% of stake).
When using an equity method, an investor company reports the revenue earned by the other company on its Income Statement, in the amount proportional to the percentage of its equity investment to another company.
The second M&A accounting method is consolidation. It has to be done when the investor has control over an investee (over 50% of stake ownership). All revenue, loss, assets and liabilities of all subsidiaries should be included in the parent’s company financial statements.
We will take a closer look into both Equity method and Consolidation in the following videos.
