Company A would also consider whether a separate enabling technology asset should be recognized for Version 1.0. As described in section 8.2.4.1 in PwC’s Business Combinations guide, “[The IPR&D Guide] also eliminated the concept of core technology and introduces the concept of enabling technology which is intended to have a narrower definition. but the initial accounting for the business combination can be complicated and often requires extensive time and effort. under common control is outside the scope of the business combinations guidance in ASC 805-10,1 ASC 805-20, and ASC 805-30 and is addressed in the “Transactions Between Entities Under Common Control“ subsections of ASC 805-50. business combinations. The authoritative accounting and reporting guidance for business combinations under US GAAP is included in Topic 805, Business Combinations, of the FASB Accounting Standards Codification. Overview. Overview of ASC 805: Business Combinations ASC 805-10-20 Defines a Business Combination as: “A transaction or other event in which an acquirer obtains control of one or more businesses .” For US GAAP, the general rule is that one reporting entity that directly or indirectly holds more than 50% of the outstanding voting shares of another entity has Some examples include accounting and financial reporting for common control (or "put-together") transactions, assessing the necessity for push-down accounting and distinguishing between equity and cost method investments. Company A should consider the nature of the underlying cash flow in determining its classification. However, the specific facts and circumstances would need to be assessed to determine if the risk of further development, along with the associated costs would be different in the two jurisdictions. Included in the IPR&D project is the historical know-how, formula protocols, designs, and procedures expected to be needed to complete Phase 3. The expected use of the asset by the entity. successful business combination. Company A is the owner of patented intellectual property used in medical devices that it currently markets and sells to customers. A reporting entity shall then classify each separately identifiable source or use within the cash receipts and payments on the basis of their nature in financing, investing, or operating activities. To determine the useful life, in addition to the factors in ASC 350-30-35-3, Company A should consider industry-specific factors, such as the following: a. Company B would likely conclude that there are no outputs acquired because the compounds are in early stage of development. As Version 3.0 is not yet under development, and, therefore, lacks any substance as IPR&D, there would not be an asset recognized for Version 3.0. Company A should consistently apply their classification conclusion to similar transactions. Pursuant to ASC 805-20-55-2 through 55-4, an intangible asset that meets the contractual-legal criterion or separability criterion is considered identifiable and is recognized at fair value using the market participant framework contained in ASC 820, Fair Value Measurement. This example assumes adoption of Accounting Standards Update 2017-01, Clarifying the Definition of a Business. Company A is in the pharmaceutical industry and owns the rights to several product (drug compound) candidates. This definition is broad and can result in many transactions qualifying as business combinations when they are actually only asset acquisitions. Company B expects to continue to use the intellectual property in the sale of currently marketed products as well as in identified future R&D activities. Two of the compounds are the predominant assets acquired. This two-day seminar covers accounting for acquisitions (ASC 805), non-controlling interests (ASC 810), intangible assets (ASC 360), goodwill (ASC 350), and the related deferred tax effects. This distinction is important because the accounting for an asset acquisition significantly differs in certain respects from the accounting for a business combination. d.      The entity’s own historical experience in renewing or extending similar arrangements, consistent with the intended use of the asset by the entity, regardless of whether those arrangements have explicit renewal or extension provisions. Even seemingly straightforward M&A transactions and non-controlling investments can introduce complex issues under ASC 805. None of the above factors should be considered more presumptive than any other, and companies should consider all the facts and circumstances when estimating an asset’s useful life. Once the IPR&D asset becomes available for use, it should be amortized over its estimated useful life. No employees, other assets, or other activities are transferred. Question: Should Company B account for the transaction as a business combination or an asset acquisition? Applicability. Throughout this guide, the phrase “the Standards” is used to refer to ASC 805 and IFRS 3. The IPR&D activities related to the new technology to be included in Version 2.0 would be recognized as an indefinite-lived IPR&D asset. When making the unit of account determination, companies may consider, among other things, the following factors: Company A acquired Company B, which is accounted for as an acquisition of a business under ASC 805. The framework for this assessment is discussed in ASC 805-10-55-5D through 55-9. Other than the stage of development, the compounds have no other similarities and are designed to treat disparate conditions. Subsequent to the acquisition, the acquired IPR&D would be tested for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. The legal entity also holds an at-market clinical research organization contract and an at-market clinical manufacturing organization contract. Add paragraphs 805-20-15-2 through 15-4, and the new Subsection title, FASB ASC Topic 805, Business Combinations, is a specialized accounting area that has evolved over the years and continues to be the subject of simplification initiatives by FASB. The project reached market approval in Canada, the US, and Europe just prior to acquisition, and regulatory approval is currently being pursued in Japan and Brazil. Company B should measure the acquired IPR&D at its acquisition date fair value and record it as an indefinite-lived IPR&D intangible asset. Each member firm is a separate legal entity. The screen test states that if substantially all of the fair value of the gross assets acquired is concentrated in a single identifiable asset or group of similar identifiable assets, the set is not considered a business and no further analysis is required. As part of the business combination, Company A acquires the intellectual property of Company B that meets the criteria for separate recognition of an intangible asset apart from goodwill. Company A’s activities primarily consist of research and development (R&D) on these compounds. ii PwC Acknowledgments The Business Combinations and Noncontrolling Interests, ... Business combinations and noncontrolling interests. Develop a clear roadmap of the economic objectives that will drive the transaction and can be used to communicate goals, both internally and with advisors. Strategic buyers often seek to expand an existing revenue stream, obtain a new revenue stream, or extend control of their supply chain. Company A acquires Company B, a small pharma company, in a transaction accounted for as an acquisition of a business under ASC 805. Our knowledge can help you develop strategies to withstand regulatory scrutiny, anticipate potential areas of focus in filings and meet constantly evolving expectations for clear and transparent financial reporting. Income statement classification of an intangible asset’s amortization expense should reflect the nature of the asset. © 2017 - Sat Dec 26 22:15:47 UTC 2020 PwC. Answer: Best practices suggest that an acquiring entity should report its cash acquisition of assets to be used in R&D activities as an investing outflow in its statement of cash flows. Version 3.0 was not yet under development at the date of the acquisition. Our FRD publication on business combinations has been updated to reflect recent standard-setting activity and to further clarify and enhance our interpretive guidance in several areas. Company A pays Company B a $3 million non-refundable fee to license Company B’s know-how and technology related to a compound in the research stage. Company A owns the rights to several drug compound candidates that are currently in Phase I of development. The fully developed and commercialized technology present in Version 1.0 would be recognized as a separate software technology asset and amortized over its useful life. Prospective application is required. Question: How should Company B account for the acquired IPR&D? Company A purchases a legal entity from Company B that contains the rights to a Phase 3 (in the clinical research phase) compound being developed to treat diabetes, or the in-process research and development (IPR&D) project. Industry practice would suggest that Company A may recognize at least two, and potentially up to five, separate assets: one intangible asset representing the rights to the compound in all market-approved jurisdictions (or a separate asset for each of the three market approved jurisdictions) and one IPR&D asset for the portion still being developed (or two, if separated by jurisdiction). As a result, the AICPA concluded that these assets should be accounted for in accordance with their nature (e.g., market-related, technology-based). Company B would not assign the acquired patent an indefinite life upon acquisition because it is not solely being used for the purpose of an ongoing R&D. This two-day seminar covers accounting for acquisitions (ASC 805), non-controlling interests (ASC 810), intangible assets (ASC 360), goodwill (ASC 350), and the related deferred tax effects. Examples of enabling technology provided in the IPR&D Guide include a portfolio of patents, a software object library, or an underlying form of drug delivery technology. One approach is to record separate jurisdictional assets for each jurisdictions. Question: When should Company A begin amortizing the acquired intellectual property, what factors should be considered in determining the amortization period, and how should the costs be classified in the income statement? PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. US Pharmaceutical & Life Sciences Assurance Leader, PwC US. Company A would likely not record a separate enabling technology as the design and technology of Version 1.0 is not used in the same form in the later versions (i.e., it is further enhanced and altered). Company A’s product candidate that has received FDA approval (it is no longer “in-process”) would be recognized as a finite-lived intangible asset at the date of acquisition, separate from the acquired IPR&D, and amortized over its estimated useful life. The expected useful life of another asset or a group of assets to which the useful life of the intangible asset may relate. Company B should perform the screen test and consider whether substantially all of the purchase price is concentrated in a single identifiable asset or a group of similar identifiable assets. It is complex and may require CPAs to face new issues and apply certain accounting principles for the first time (see the sidebar, "Accounting Quick Tips," below). © 2017 - Sat Dec 26 22:28:03 UTC 2020 PwC. This Roadmap replaces the Deloitte Q&As that were contained in ASC 805. None of the acquired drug compounds are similar. In the full assessment, Company B will need to consider whether it has acquired inputs, substantive processes, and outputs. Company B is developing a drug compound that is expected to become a leading product for its therapeutic indication. 5. If the precise length is unknown, intangible assets should be amortized over a company’s best estimate of the assets’ useful life. As in determining the useful life of depreciable tangible assets, regular maintenance may be assumed but enhancements may not. f.       The level of maintenance expenditures required to obtain the expected future economic benefits from the asset (for example, a material level of required maintenance in relation to the carrying amount of the asset may suggest a very limited useful life). Question: How should Company B account for the acquisition of the patented intellectual property? Contingent consideration arrangements of an acquiree assumed by the acquirer in a business combination shall be measured subsequently in accordance with the guidance for contingent consideration arrangements in paragraph 805-30-35-1. As part of the business combination, Company A acquires the intellectual property of Company B that meets the criteria for separate recognition of an intangible asset apart from goodwill. The classification of amortization expense should generally be determined based on the asset’s intended use and recorded in the income statement accordingly. Company B acquires the rights to the drug compound candidates along with Company A’s workforce composed primarily of scientists. This determination for acquired IPR&D can be complex when an approved drug may ultimately benefit various jurisdictions. Please see www.pwc.com/structure for further details. Company B accounts for this transaction as an acquisition of a business. An entity uses the definition of a business in ASC 805 in determining whether to account for a transaction as an asset acquisition or a business combination. Company A is also using the intellectual property in certain ongoing R&D activities. The cash flows and useful lives of intangible assets that are based on legal rights are constrained by the duration of those legal rights. Identifying a Business combination Under ASC 805, A business is defined as: An integrated set of activities and assets that is capable of being conducted and managed or the purpose of providing a return. Supersede paragraphs 805-50-05-1 and 805-50-05-8 and its related heading, amend paragraphs 805-50-05-2 and 805-50-05-6 through 05-7 and the Subsection title and add the General Note, and add paragraph 805-50-05-9 and the new Subsection title, with a link to transition paragraph 805-50-65-1, as follows: Business Combinations—Related Issues The AICPA’s Accounting and Valuation Guide on acquired intangible assets used in research and development activities (the IPR&D Guide) notes that value should be allocated to all identifiable assets, which could include IPR&D. The clinical research organization contract and the clinical manufacturing organization contract are at market rates and could be provided by multiple vendors in the marketplace. Please see www.pwc.com/structure for further details. They may also introduce. The project has been scaled to allow for additional trials to meet the regulatory requirements in each future jurisdiction. In IFRS, the guidance related to accounting for business combinations is included in IFRS 3, Business Combinations. At the acquisition date, Company B produced and sold a medical scanner that includes Version 1.0 of its proprietary software. In this comprehensive update, KPMG provides detailed guidance on and interpretation of ASC 805, including illustrative examples and Q&As, and addresses specific acquisition-related accounting issues. e.      The effects of obsolescence, demand, competition, and other economic factors (such as the stability of the industry, known technical advances, legislative action that results in an uncertainty or changing regulatory environment, and expected changes in distribution channels). The IPR&D guide indicates that the enabling technology, in order to be separately identifiable, should exhibit the same characteristics between the various products in which it is used. Determine the appropriate commercial, legal, tax, financial reporting, valuation and regulatory skills needed to complete the transaction and involve the appropriate professionals early in the process. What Are the Main Provisions? ASC 230-10-45-22: In the absence of specific guidance, a reporting entity shall determine each separately identifiable source or each separately identifiable use within the cash receipts and cash payments on the basis of the nature of the underlying cash flows, including when judgment is necessary to estimate the amount of each separately identifiable source or use. Highlights of the Update FASB Issues PCC Alternative for Identifiable Intangible Assets in a Business Combination 2 of 13 2. The AICPA’s Accounting and Valuation Guide on acquired intangible assets used in R&D activities a makes a distinction between complete and incomplete intangible assets used in R&D. If an income approach is used to measure the fair value of an intangible asset, Company A should consider the period of expected cash flows used to measure fair value adjusted as appropriate for the entity-specific factors noted above. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. In the absence of that experience, the entity shall consider the assumptions that market participants would use about renewal or extension, consistent with the highest and best use of the asset by market participants, adjusted for entity-specific factors in this paragraph. Some examples include accounting and financial reporting for common control (or "put-together") transactions, assessing the necessity for push-down accounting and distinguishing between equity and cost method investments. To find the text in the Roadmap that corresponds to a former Q&A, select the “Business Combinations” tab at the bottom of the Q&A to Roadmap Quick Reference Guide and search for the Q&A’s number or title. Only intangible assets that are incomplete and used in R&D activities should be accounted for in accordance with ASC 350-30-35-17A (that is, assigned an indefinite useful life upon acquisition). Based on the fact that none of the acquired compounds are similar, and two of the compounds are the predominant assets acquired, the screen test is likely not met and a full assessment must be performed. b. The following PwC people contributed to the contents or served as technical reviewers of this publication: Kassie Bauman Cathy Benjamin Nicole Berman Wayne Carnall Brett Cohen Larry Dodyk Donald Doran Company A expenses the $3 million as incurred as in-process R&D costs. The intellectual property acquired by Company A does not represent IPR&D. Company that is involved with a business combination; Company that presents goodwill in its financial statements; Relevant dates The production, testing and developing equipment would generally be separately recognized as tangible assets, measured at fair value, and depreciated over their estimated useful lives. Start adding content to your list by clicking on the star icon included in each card. Once the associated R&D efforts are completed, the carrying value of the acquired IPR&D is reclassified as a finite-lived asset and amortized over its useful life. Incremental costs incurred on IPR&D after the acquisition date are expensed as incurred, unless there is an alternative future use, under ASC 730-10-25. Factors to consider may include: the employees’ roles, whether the workforce is subject to contracts with employers or service organizations, as well as the nature and stage of the assets acquired. Codification (ASC) Topic 805, Business Combinations. Arrangements; or Update 2014-18, Business Combinations (Topic 805): Accounting for Identifiable Intangible Assets in a Business Combination. ASC 230-10-45-13C: All of the following are cash outflows from investing activities...Payments at the time of purchase or soon before or after purchase to acquire property, plant, and equipment and other productive assets... ASC Master Glossary: Operating activities include all transactions and other events that are not defined as investing or financing activities (see paragraphs 230-10-45-12 through 45-15). All rights reserved. Established businesses often have many different types of inputs, processes, and outputs, whereas new businesses often have few inputs and processes and Accounting Standards Update No. ASC 230-10-45-22A: In situations in which cash receipts and payments have aspects of more than one class of cash flows and cannot be separated by source or use... the appropriate classification shall depend on the activity that is likely to be the predominant source or use of cash flows for the item. It depends. Operating activities generally involve producing and delivering goods and providing services. 'result' : 'results'}}. Companies may pursue mergers and acquisitions for a variety of reasons. Further, to be capable of this, a business must have, at a minimum, an input and a substantive process that together significantly contribute to the ability to create an output. 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