What Is a Purchase Price Allocation?
Purchase price allocation (PPA) is the process of allocating the purchase price of an acquired business in a merger or acquisition. A PPA is a valuation analysis required under Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC), Topic 805.
An acquiring company conducts a PPA to allocate the purchase price of the acquired company to that company’s various net assets. These net assets are the acquired company’s total assets minus liabilities.
The PPA reflects fair value (FV), so the acquiring company will adjust all assets and liabilities in the acquired company’s balance sheet and adjust them to the FV at the time of purchase.
What Is a Purchase Price Allocation’s Purpose?
A PPA’s purpose is to establish accurate accounting when a company is acquired by—or merged into—another company. The purchase price may include cash, equity, and earn-out. The PPA determines the FV of all of the company’s assets and liabilities.
What Are the 3 Main Components of a PPA?
A PPA has three main components:
- Coming up with the value of the purchase price
- Identifying the net assets
- Coming up with the goodwill
What Are Net, Tangible, and Intangible Assets?
Identifying and valuing the net, tangible, and intangible assets is one of the most critical parts of a PPA.
A company’s net assets are the total assets minus that company’s liabilities.
The tangible assets include:
- Securities—like stocks or bonds
A company’s intangible assets are often more obscure. One of the critical elements of a PPA is determining the FV of intangible assets. They can include:
- Intellectual property (IP)
- Customer relationships
- Research and development (R&D)
- Trade secrets
What Is Goodwill?
Goodwill is whatever amount is residual after determining an acquired company’s net assets minus liabilities. It is the difference between the purchase price and total FV of assets and liabilities. Once an acquiring company has finished allocating the FV of net assets, whatever remains is attributed to goodwill.
Goodwill should be assessed yearly for impairment. Goodwill impairment reflects when the carrying amount exceeds goodwill’s FV.