How Will the PCC’s New M&A Accounting Framework Affect Government Contractors?

In September, the Private Company Council (PCC) reached a final consensus on an accounting alternative for business combinations that, if elected, could exempt private companies from separately recognizing and measuring non-competition agreements and customer-related intangible assets that are not capable of being sold or licensed independently.[1] The FASB recently codified the PCC’s alternative for business combination accounting in ASU 2014-18, Accounting for Identifiable Intangible Assets in a Business Combination: A consensus of the Private Company Council.

With respect to customer-related intangible assets, the key consideration for government contractors is whether those assets are capable of being transferred separately from the other assets of the business. To put this in perspective, consider a firm providing professional IT services under contracts with the federal government. Even if the contracts could be sold, they generally could not be sold independent of other assets like the assembled workforce or without customer input. For private companies adopting the PCC’s accounting alternative, this fact pattern may result in customer-related intangible assets not being recognized separately from goodwill.

In acquisitions of government contractors, customer contracts and customer relationships (contractual and non-contractual) tend to be very important and valuable. Whereas, under the pre-existing ASC 805 guidance, customer contracts/relationships might be the most significant intangible assets recognized in a business combination, under ASU 2014-18, there may be no value allocated to customer contracts/relationships. That is, the purchase consideration that would otherwise be allocated to customer contracts/relationships will generally be subsumed within goodwill under ASU 2014-18. And since private companies that choose to adopt ASU 2014-18 must also adopt ASU 2014-02, the applicable portion of the purchase consideration will be amortized over a default period of 10 years.

Key advantages of adopting ASU 2014-18 include reductions in the cost and the complexity of business combination accounting. At the same time, the PCC and the FASB don’t expect adoption of ASU 2014-18 to result in a significant decrease in decision-useful information for financial statement users. While ASU 2014-18 is designed to promote simplified business combination accounting for private companies, there are several reasons why it will not be universally adopted by government contractors.

• ASU 2014-18 is optional, not mandatory. So some private companies may take the “if it ain’t broke, don’t fix it” approach and continue under the pre-existing ASC 805 model.
• Some users of private company financial statements (e.g., lenders, investors) may prefer the pre-existing business combinations framework under ASC 805.
• Adoption of ASU 2014-18 may result in a counterintuitive purchase price allocation. It’s possible the most important intangible asset acquired won’t be recognized, while less important intangibles will.
• Private companies that choose to adopt ASU 2014-18 are required to adopt ASU 2014-02 also. So, if a company doesn’t wish to adopt ASU 2014-02, then they won’t want to adopt ASU 2014-18.
• Since ASU 2014-18 does not apply to public companies, private companies need to consider whether they may, in the future, become a public company or be acquired by a public company. If so, it may be unwise to adopt ASU 2014-18, since it may later necessitate restating prior year financial statements (i.e., to undo the effects ASC 2014-18 and ASU 2014-02).

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[1] The exposure draft of this PCC guidance (PCC Issue No. 13-01A) had been released in July 2013, together with a companion exposure draft (PCC Issue No. 13-01B) providing for an alternative goodwill accounting framework. The PCC’s goodwill alternative was codified by the FASB in January 2014 (ASU 2014-02, Accounting for Goodwill: a consensus of the Private Company Council).