and welcome to Omni nose webinar
accounting for business combinations ASC
805 purchase price allocations please
remember you will receive a link to the
webinar slides and recording within 48
hours after this event my name is Mary
Russell and I wanted to Spock you
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actively respond to at least 75% of the
polling questions and complete our
evaluation survey at the end of the
webinar and now I have the pleasure of
introducing our presenters the first is
dirk van dyke he's a managing director
and our evaluation and equity services
group and dirk has more than 20 years of
experience valuing companies in Silicon
Valley
he's a focused on common stock
valuations for stock option pricing
purchase price allocation or topic today
and derivative valuations Nadia Carey is
a manager in our evaluation equity
management solutions group and she has
done valuation analysis of early to late
stage private companies intangible asset
valuations for mergers and acquisitions
and business combinations sass 73 audit
assist reviews for our miyazono clients
and also handled
forensic accounting along the way and
finally we have Gunther Hoffman there's
a director in our evaluation and equity
managers Akoni management services group
Guterres worked with as a cat venture
capitalist entrepreneur mergers and
acquisitions advisor and valuation
specialists and through that he has
valued more than 400 companies in the
last 15 years
he leads the corporate finance practice
at our Mannino as well and his practice
includes software internet life sciences
semiconductor and renewable energy
clients we just want to review for you
this morning as the scope of our team's
experience and we have valuation for tax
and financial reporting compliance
experience in IRC 409a ASC 718 gifting
Estate valuations transactions portfolio
valuations and purchase price
allocations we also serve as a
purchasers representative provide
corporate finance guidance and help with
mergers and acquisitions and our group
has done more than 3,000 valuation
opinions over the last few years during
today's seminar participants will be
able to discern the nuances of fair
value accounting for business
combinations and uncover hot-button
issues for auditors delve into the
assumptions and methodologies to
understand and interpret a compliance
report and review the latent latest
guidance from the AICPA
the appraisal foundation and other
standard setting bodies and with that
we're gonna we're going to make sure
that you are all involved here and do a
polling question get started so the
first question that we have for you is
are are you your company planning for an
acquisition within the next three months
six months 12 months or not at this time
and as a reminder we will provide you a
link to the PowerPoint slides and a PDF
of this presentation within 48 hours of
this presentation today so it looks like
the majority of our audience has voted
we're going to go ahead and close that
poll
and approximately half of the audience
is not yet planning but we do have a
good group that have been looking at
acquisitions alright and I think I will
turn over here to dirk van dyke hello so
the reason why we do purchase price
allocations for accounting purposes to
put the value of the acquire intangible
assets including goodwill on the balance
sheet so there are four general steps
for this one is identify the acquirer
which typically is very simple but
occasionally it's not obvious who the
acquirer is when two companies are
merging that are relatively the same
size obviously you need to know the
acquisition date 3 where we come in is
recognizing or perhaps identifying and
measuring the identifiable intangible
assets acquired also tangible and
intangible I should say liabilities
assume and occasionally but rarely non
controlling interests and the last step
is goodwill measured goodwill or a gain
from a bargain purchase but that is very
rare to see a gain a bargain purchase
auditors in particular do not like
seeing a bargain purchase unless there
is very strong evidence that there is
one okay the the faz be guidance is ASC
805 business combinations which states
that the acquired assets and liabilities
must be recorded fair value so first
there's tangible assets which is usually
pretty straightforward rarely will bring
someone in who is a certified
PP&E or fixed asset appraisal appraiser
to value that if it's a very asset
intensive company it doesn't happen that
often oftentimes we use book value or
might might adjust that the key step
here in my opinion is identifying and
valuing the intangible assets which is
what we're going over today and then as
we'll show an example soon goodwill is
simply the residual amount of the
purchase prices what was paid less the
tangible assets less the intangible
assets equals goodwill okay
there's been the study done showing what
these are public company so this this is
data is gleaned from public company
balance sheets post acquisition and as
you can see financial institutions at
least in the post financial crisis era
have very little intangible assets or
goodwill if you look at it that's as a
percentage of the purchase consideration
only 1% of the of the perch
consideration is a specific intangible
asset the median and just 6% is goodwill
now that's very different you look at
technology which not surprisingly has
very high level of intangible assets and
we'll go over what some of those are
later so it's 1/3 is the median for
specific identified on tangibles and
then a majority of the asset of the
purchase iteration is actually purchase
is actually Q's me it's actually
goodwill so it is a future expected
benefit that can't be quantified at the
time of the acquisition okay so what are
intangible assets so technology is
typically one you can see the different
examples of technology they're assets
that lack physical substances and isn't
a perfect definition because databases
exist right
Peter software you have the code but
that's really not what the asset is
customer contracts relationships
customer relationships is a much more
common one than contracts to value we do
value contracts on occasion most of the
time there's a trademark or trade name
involved in an acquisition which may or
may not have value non-compete
agreements may or may not have value
depending on the ability and desire of
the of the sellers to compete and
artistic creative assets such as plays
books movies games photos say someone
acquired Getty Images there'd be a huge
value to the photos for example one
thing one thing is not up there that I
value before is musical royalties from a
variety of artists I've valued some some
big-name rock stars royalties which have
been decreasing over time as people as
people as the younger generation gets
musical assets for free or for very low
cost as opposed to paying for it like I
did when I was their age okay all right
now we are ready with our second polling
question and that is popping up here so
which I'm sorry what intangible assets
does your company have and you can
select multiple options here so do you
have technology in process Rd a trade
name non-compete agreements customer
relationships so if you can enter in all
that apply to your organization
we'll give you just a moment or two more
to finish that voting there girl here
we're all curious about the rock stars
that you
if you have had to listen to all the
songs alright and with that we'll go
ahead and close the poll I'm not
supposed to name any names of the rock
stars but one of them had been to rural
T's had been declining prior to the gift
that this artist made and then they had
a supernatural comeback after that so
give you a hint there so we have
approximately 70% of the attendees have
both technologies and customers as
intangible assets but half have a trade
name 40% in process research and
development which will explain what that
is shortly and a little less than 30
percent of not compete so that's about
what we would expect to see okay so I
guess there's not a lot of financial
institutions on okay so our new slide is
up here and this side slide is basically
showing you on the upper left hand
corner there's an opening balance sheet
before any intangibles are added total
tanto tangible assets of 5.4 million
however a company came in and deemed
that the it was worth paying one excuse
me 11 million dollars for this company
10 million of that cash and 1 million of
assumed long-term debt to get to the
intangibles in goodwill we subtracted
off the net working capital and net
fixed assets to get to 7.6 million in
the lower left corner of intangibles and
goodwill so in the upper right hand
corner we've restated that balance sheet
added intangibles and goodwill by the
magic of an acquisition that those
intangibles and goodwill get added to
the balance sheet personally I think
that they should be added to internally
developed intangible should be on a
company's balance sheet but probably a
lot of the CFOs and controllers on the
call would disagree with that opinion so
go down to the lower left-hand corner
you can see total perch consideration is
equity plus long-term debt subtract off
network link which is equal to
networking capital of fixed assets and
total intangible value which is equal to
the value of the acquired business okay
okay now we're gonna break out
intangibles and goodwill so we're just
looking at assets on the right hand side
there and you have the usual tangible
assets that doesn't change what what
does change is that post acquisition
we've added to the acquirers to the
buyers balance sheet for excuse me three
specific identifiable intangible assets
technology customer relationships and
trademarks trade names and just an FYI
that's that's a not uncommon ratio for
the technology is worth them the most
and the customer base is worth a little
bit less than that and then the trade
name or trade mark is worth a fair
amount less than that then we have
goodwill which on the balance sheet
would simply be goodwill but here we
want to show that we actually value the
acquired work force as an intermediate
step and about in valuing the most
valuable intangible asset so that's two
hundred thousand here and then other
goodwill is simply the residual to get
to the so that the total intangible
assets equal to seven point six million
on the left okay okay now Nadia Kerry is
going to discuss key elements and
challenges good morning everybody so we
just saw the breakout of the intangible
assets and how they get added to the
balance sheet here we will go over how
to combine these balance sheets and what
value should the targets ask that
be listed on the new balance sheet the
first two options on this slide are
incorrect
the targets assets should not be listed
at their historical carrying costs which
could be 0 if its technology and never
made it to the balance sheet in the
first place the second option here is to
restate the targets assets at the value
to the buyer and that is also incorrect
for the faz be ASC 805 regulations the
targets assets should be restated at the
value to a market participant and this
is a key word and a theme that we'll
revisit in the slides to come so here we
go the definition of fair value is the
price that would be received to sell an
asset or paid to transfer a liability
and an orderly transaction between
market participants at the measurement
date the key words here are that it is
the price to sell an asset it is an exit
price not the not the price to buy it
the other key word is the market
participant it should be a market based
measurement and not entity specific or
buyer specific market participants
should be independent knowledgeable and
able and willing to transact and not
forced or otherwise compelled to we also
have on this slide
that's not explicitly stated in the fair
value definition but that the intangible
assets should be listed and valued as
their highest and best use physically
possible legally permissible and
financially feasible and we also assume
that the transaction would occur in the
principal market for the asset so
another key challenge the reason for
buying the asset is not the basis for
valuing the asset buyer specific
attributes and intent
should be disregarded if it's different
than other market participants so here
in example number 1 a redundant asset
say the buyer of
target company plans to cease using the
trade name immediately after the
purchase quoting there's no value in the
trade name for us it would be incorrect
therefore to list the trade name on the
balance sheet at zero if other market
participants would utilize that trade
name a good example of that is if
coca-cola bought the Pepsi trade name
and then retired it to increase their
monopoly power and pricing power so that
that Pepsi
being retired coke has no no not using
it but there's a huge value of the Pepsi
trade name so in that case and that
hypothetical acquisition the valuation
specialist would have to value that
trade name put to its highest and best
use by market participants so other soft
drink or consumer goods companies would
absolutely use the Pepsi trade name so
that will go on the balance sheet even
though there's no value to the actual
buyer exactly exactly there's no value
to the buyer but it should still make it
to the apology so example number two are
synergistic assets the buyer if the
buyer is uniquely positioned to
accelerate sales of acquired technology
that synergistic benefit that's unique
to the buyer should be removed when
valuing the intangible asset if a market
participant isn't able to take advantage
of those same synergies so the financial
projections these should also be based
on market participant growth rates and
margins entity specific synergies
between the buyer and seller should be
excluded from the financial projections
used in the purchase price allocation
these include advantages efficiencies
and benefits unique to the buyer and
seller that are not available to all
market participants but but if they are
available to other market participants
they should be included exactly it goes
both ways so another step to take in
preparing and reviewing financial
projections and a PPS
is to double-check them across industry
growth rates and margins just as a
reasonableness test and in particular be
able to explain any significant
differences between the industry and the
target company that got acquired so in
using the market participant assumptions
this applies to put all of their costs
and in revenue and expenses and growth
rates so cost of revenue are indy
expensive sales SG&A their capital
expenditures all of these items should
be based on market participant market
participant level and the last point
there the in process R&D the cost to
complete this should also be at a market
participant level all right thanks Nadia
now we're going to go to our third
polling question well we've got an easy
selection here for you now have you been
asked by your auditor to provide more
support for the assumptions used in your
projections so please select one either
yes no or Not sure great thank you we
really appreciate everybody weighing in
here we're going to give you a couple
more seconds to finish the poll so you
can get that continuing education credit
and it looks like we have the vajura tea
of voters in so if we can go ahead and
share the results there so here we can
see most everybody who voted yes this is
certainly not surprising to us we'd
audit PPAs
and also get audited ourselves and
frequently they there is a lot of
support requested for monitors and and
the assumptions can be very subjective
at times so this is not surprising to us
all right so moving on and now we'll
take you through how a PPA works
so here we have our four main ideas how
do you identify an intangible asset
what is its remaining useful life what
is goodwill and why are there two kinds
of goodwill and we'll go through this
here so first off identifying intangible
assets there's two main criteria that
you need to be considered number one
the asset is separable from the rest of
the entity and it could be divided and
sold off if this could be either
individually by itself or even together
with a related contract or another
identifiable intangible asset so if the
intangible meets this criteria then it
should be valued separately the other
criteria is that the asset could arise
from contractual or other legal rights
and whether regardless of whether those
rights are separable from the entity
this any asset meeting this criteria
would also be valued separately and put
on the balance sheet separately examples
of this one include operating permits
and licenses or possibly supplier
agreements so the useful life of an
intangible asset is another subject
somewhat subjective determination that
is made as part of a purchase price
allocation and it's based on a few
things including what is the expected
use of the asset is its life limited due
to a legal contract or maybe
technological obsolescence for example
any economical or contractual factors
can limit the life of an intangible
asset and what possibly what is the
expected useful life of a related group
of assets so here's an illustrative
example of the lives that could be
applicable to the very various
intangible assets and what's possible
there at the top and then its life could
be shortened by legal contracts or
obsolescence
which frequently is the case in
technology technology assets and that
brings us to number three after we
valued identified and valued the
intangible assets were left with
goodwill and it really is the residual
value that isn't specifically allocated
to any of the tangible or in reciprocal
intangible assets so here's the simple
equation for that we have our purchase
consideration the eleven million dollars
that Dirk mentioned earlier and we
subtract off our tangible assets which
are working capital in fixed assets then
we're left with the seven point six
million which is the total intangibles
and goodwill and after we have separated
and valued are identifiable and tangible
assets that could be the customers or
technology or non-compete agreements or
what those items Dirk mentioned earlier
say we we have valued them at 4.4
million then the remaining 3.2 million
of the purchase is goodwill and here in
number four out of that 3.2 million some
of it is allocated to an acquired work
force
the acquired work force is not listed
separately on the balance sheet and it's
not an intangible asset in itself it's
considered to be part of goodwill so it
does get valued as part of a purchase
price allocation but it is listed and
included as goodwill on the balance
sheet so it's kind of interesting to me
that it's not included as a separate
intangible assets it's in certain
acquisitions such as an acquire to hire
a workforce it's it's the most valuable
asset yeah intangible asset actually
most of I passed that period but the faz
be an SEC deem that it was the valuation
methods used to value the work force
weren't sufficient enough to have that
me on the balance sheet so that's why
it's not that's why it's just lumped in
as goodwill
yeah that's a great point and we saw
earlier
technology companies tend to have very
high goodwill and they also tend to get
aqua hired a lot so the acquired
workforce is typically valued as as a
replacement cost model basically what
would it cost if we started from zero to
rebuild this workhorse with the same
skills and expertise so here we have
what is the impact of having higher
goodwill and lower intangible assets
versus a significant amount of intent of
identifiable intangible assets at a
lower amount of goodwill so if you have
a PPA if you have a purchase with a very
high amount of intangible assets that
are separately identifiable this will
result in a higher amortization expense
over its useful life and therefore it
will have a lower goodwill amount this
goodwill will then be tested for
impairment in future years
and any potential and goodwill
impairment that happens to occur in
later years would is actually a direct
charge on to the income statement so
this could result if there's very high
goodwill it could result in very high
write-offs in later years and the lower
the goodwill the less potential earnings
volatility you'll have in later years
because everything will just be
amortized so going along the same
concept if there is an increased
allocation to the residual goodwill then
there's the any future impact of
goodwill impairment will be much greater
so here are some fundamental components
in a purchase price allocation our
principles of risk return and value are
ever-present in the whole model our main
risk and return rates are the weighted
average cost of capital internal rate of
return
turn and the weighted average return on
assets which we'll talk about we have
our three main approaches income market
and cost and then contributory asset
charges and the tax amortization
benefits are also unique to purchase
price allocations and intangible assets
here's an illustrative example of a
variety of risk and return rates that
are applicable to different types of
assets you can see that working capital
the risk and return rate is very small
and it increases as we progress along
the chart and we get to the intangible
assets so this is a nice example of how
these separate separate intangible
assets carry different risk rates so
just an example of the potential impact
of a goodwill write-off you may remember
back in the internet boom period the
late 1990s that AOL acquired Time Warner
and eventually a few years later a AOL
had to post a 98.7 billion dollar
write-off on Uncle well because of that
acquisition was a was an abject failure
yes so having a large amount of goodwill
could really impact your income
statement in later years that's a great
example okay so here we have our three
main risk rates that are in the PPA we
have our internal rate of return which
is solved for using the purchase
consideration and the forecast we have
our weighted average cost of capital
this is serves as an industry benchmark
more or less and it's derived from
comparable public companies then we have
our weighted average return on assets
this is where we weight each of the risk
rates that are applicable to the various
intangibles that we saw in the previous
slide
we would multiply the rate of return for
each asset by its percentage of the
total purchase price and that's how the
wara as it's called that's how that is
calculated so here are the three main
approaches income approach is typically
very similar to a discounted cash flow
model it is very commonly used in
purchase price allocations
there's the market approach where we
would try to get observable data from
market transactions of similar assets
this is oftentimes very difficult to get
and there lack of data out there makes
the market approach less common in
identifying intangible intangible assets
and valuing them and then the cost
approach the cost to recreate an asset
of the same or similar utility this is
used as we saw in the acquired workforce
valuation it could be used in technology
it is used slightly less common than the
income approach but more often times
than the market approach in general
auditors typically won't want to see an
income approach and income approach is
not used so want to know why right and
here we have the list of all the primary
income approaches that are used and
we'll go through them quickly here the
multi-period excess earnings method this
is typically used for the primary asset
the most valuable asset identifiable
intangible asset that is acquired it's
very similar to a discounted cash flow
model and includes the contributory
assets that we talked about earlier the
rate of return for the asset that's used
in the multi period excess earnings
method is a guideline benchmark in
determining whether the asset is more or
less risky than the company as a whole
so that moving on to the relief may be a
quick comment we had a question
why would companies even value the work
force and reason here is that it's a
contributory asset so we we do need it
as a contributory asset charge in the
multi period excess earnings method
because obviously although we don't
value it as a separate that we don't
show it in the balance sheet as a
separate item it does contribute to the
cash flow that the company generates and
therefore is a charge in the multi pure
excess earnings method right yeah so so
it is important to separate out and
identify and value the acquired work
force the relief from royalty method is
another income approach where royalty
rates are obtained from various
databases or contracts that are public
and this is applied to a future revenues
so basically the model reflects expenses
that are avoided because you do not have
to incur the expense of obtaining the
asset from a third party so if you own
this is typically used for the trade
name and if you own the trade name then
you wouldn't need to license one from a
third party the distributor margin
method this is typically used to value
customer relationships and it uses
market observations of wholesale and
distributor operations to develop inputs
for valuing customer relationships and
this should be used for this utilizes
companies or whom the primary asset is
not customer relationships and the last
income approach method on there the with
and without method is where we would
model what the income statement looks
like with the asset in place and what
the income statement would look like
without the asset in place so that's
often used for non-compete agreements
where you would have a financial
forecast including the non-compete and
then you would have a financial forecast
without the
non-compete and then the discounted
differential would represent the value
of that non-compete agreement yeah
exactly so we as we mentioned the market
approach is less common and the
replacement cost method would be a sort
of cost filled up to get to the value of
the asset here's a briefly to go over
the contributory asset charges there
mention this in our discussion of them
heme and why would we value this value
the assembled workforce so the
contributory asset charges and the multi
period excess earnings method represent
charges for the fact that this asset
getting value that's the primary asset
of the company still dry still relies on
other assets that are in place to make
that earning stream so charges for
contributory assets would include
charges or working capital in fixed
assets as well as other intangible
assets so the customer relationships
contribute to the value of technology if
technology was the primary driver of the
acquisition and therefore there would be
a charge for customer assets a
contributory asset charge at the end of
the multi period excess earnings method
that represents the contribution that
the customer relationships make to the
technology so here just a little bit
more into the details the charge is
deducted from the cash flows and this is
typically calculated as a percentage of
the primary assets revenue so it would
typically the charge is a percentage
that's just applied in each year and and
that pretty much covers contributory
asset charges and the last one is the
tax amortization benefit this is also a
unique benefit for intangible assets its
IRC 197 it provides a tax deduction
to amortize the value of the intangible
asset over 15 years so you add the
present value of the tax savings and
count it towards the total value of the
intangible asset pretty much almost
always we have almost in parentheses but
it is very very common that we you would
assume a market participant would take
advantage of this tax benefit and I'll
hand it off together to go over the next
next portion of the webinar thank you
and good morning everybody or good
afternoon depending on where you dial in
from so some specific or some issues
related specific intangible assets
customer relationships I think one of
the main issues we see is customer
attrition rates so few companies have
their customers forever so there's a
finite life to the customer relationship
and that gets modeled with customer
attrition attrition rate auditors like
like to question that so it is good to
have some historical evidence for
customer attrition which of course for
early-stage companies is much harder
than for established companies and the
other pieces often it's not as easy to
get that information from the IT systems
that the company has so the more
sophisticated the better but you have to
make do what's there the other piece is
of course there's you can compare these
the life of the asset of the customer
relationship with other transactions so
usually what we do is we look at similar
transactions in the industry and review
what what remaining life of the asset or
the customer relationship was and that
should give some insight into the
attrition rates that are usual in that
industry
the other piece here is that of course
the customer relationship there is some
sales and marketing expense to maintain
that customer relationship I think that
a minimum we would expect that you sent
your customers a card for the holidays
but there there are some expenses that
go along with that next one is
technology the we do a lot of valuations
for technology companies and technology
acquisitions so that is often the
primary asset also here there is an
expectation that there is some R&D
expense that maintains the existing
technologies or maintenance R&D expense
I think the other comment here would be
that the the others would question if
you have a new product coming out next
year that's based on technology but
there's no in process R&D on the balance
sheet so you have to provide support for
that I think we talked a little bit
about non-compete agreements there
should be qualitative quantitative
support and not every non-compete
agreement has values so there's there
would need to be a review of each
individual the ability of competing
feasibility but also the desire to
compete maybe it's a founder that's
retiring and has really no no incentive
and no will to compete but of course in
every agreement there is a non-compete
agreement in every purchase agreement
usually there's a non-compete agreement
as it live we already touched on that I
think there you would look at the life
of similar assets to get some support
for the asset life that's chosen then on
the next slide we look at in process Rd
I think that's also looking at the
financial forecast and where does future
revenue come from and it for technology
companies it can come from existing
technology which we would expect to see
on the balance sheet as an identifiable
intangible asset or it can come from
future technology something that hasn't
been developed yet so there's a future
Rd but it can also come from something
that's in development and then we would
capitalize it as Infosys Rd there are
some requirements to do that so there
needs to be a technical feasibility of
completing that asset that technology
and there needs to be an intention to
complete the technology but the
technology is nothing without the
ability to use it or to sell it so
that's also requirement so there needs
to be a probable future economic benefit
and of course there needs to be adequate
technical financial and other resources
to really complete the development now
if you have all those factors then there
would be an expectation that that
management has some reliable forecasts
of the expenditure to complete the
development and of the economic future
benefit if not in my experience then the
auditor will ask why if you want to
complete it and you can complete it and
you have the resources to complete it
and it's more likely than not that there
is an economic benefit all right thank
you good chair and we're going to do our
last polling question here and that's
popping up here has to do with goodwill
what is goodwill in the context of this
webinar and you need to just select one
choice is it friendly helpful or
cooperative feelings or attitude in
tangible assets not separately
identified
intangible assets such as technology and
trademarks things people donate to the
Salvation Army so we're going to give
you just a couple more moments to select
and it'll be interesting we've got we've
got one answer that's that's trending
higher than all the others here alright
and with that we'll go ahead and close
the poll okay
and are they right to control for CH
initely they are right I I was rooting
for the friendly helpful cooperative
feeling but of course it's it's the most
intangible of the intangible assets so
it's an intangible assets that's not
separately identified but it's good if
you donate to the Salvation Army too so
some some recent developments I think we
select time for this one I wanted to
touch quickly on the fair value quality
initiative this is not only relevant for
purchase price of occasions but of
course that's where it comes to the fore
pretty often this is basically the SEC
complaining that there's too much
divergence in practice and that there is
a bunch of folks out there that may not
have the requisite training
qualification expertise or experience to
perform this valuation work so the SEC
complained and pretty much told the
valuation community that it would be
good if there were a rigorous and
uniform qualification training
accreditation and some oversight of the
individuals conducting these fair value
measurements which led to and similar to
other professional organizations right
physicians accountants lawyers there's
there's some some consum some
centralized oversight for the
you Asian community not necessarily so
the AICPA the a sa and the which the
American Society of appraisers
and the RIC s which is the Canadian
equivalent came together and established
well fair value quality initiative and
trying to develop a framework for
performance requirements qualification
and quality review so that's an ongoing
process there's some some publications
already out there to show what direction
that's going into on the next slide so I
I'm not going to go into the the details
here but there's gonna be some
credential value or credential where
professionals that do these type of
valuations would be expected to have
that credential there will be some
performance framework so answering the
questions not only who should do these
valuations and what should they do in
terms of body of knowledge but also how
much of it should they do so how deep
dive should they take yes and I want to
know that this is for any any fair value
calculations that will go on a public
company's balance sheet so this is for
SEC registrants in particular okay then
I think on the next slide but these are
some new rules for a goodwill impairment
that's coming down the pike this is from
in October 2015 so October last year
meeting from tasbeeh to propose some
simplification of the goodwill and
current test and also address some
additional concerns these valuations are
exceedingly complex and and often for
how should I say that to get intangibles
that you can't really grip to onto the
balance sheet
then on the next slide private company
attorneys I think we had a question on
that too so there are some new
regulations that came out of the private
company counsel got adopted by fast B so
one is recognized only those intangible
assets rising from non canceled
contractual terms or other legal rights
even if they are separable so you
wouldn't recognize all intangible assets
anymore
for example customer relationships but
then on the other side customer lists
are being sold and can be sold so they
do have a value and think can be
separated for a lot of our clients they
are very ambitious so they want to go
public at some point so they just do the
full-blown purchase price allocation
anyway just to have it there the the
other one the 1301 B think that was the
question on that allows actually the
amortization of goodwill so you wouldn't
have to weigh to impair it but um er
ties it which obviously leads to less
volatility in your earnings if you had
to impair it but you I mean you you
would still have to test it for
impairment if there's a triggering event
but other than that you would just
amortize it but again this is only for
private companies and as an alternative
and as cool to mention that not all
private companies are opting for this
alternative it's not requirement but
it's an option and those that are
planning on hoping to achieve an IPO say
in the next three years and then some of
those who are maybe acquired by a public
company would want to also have all
their
tangible assets value because that's
just in case the for the public
companies due diligence so just want to
point that out okay I think we still
have some time to go over an engagement
so what what do we actually do in a
purchase price allocation or what should
you expect so roughly it can be divided
up into four steps foundation then a
preliminary analysis then a more
detailed financial analysis that's where
the bulk of the work is done and then
briefed stakeholders and document to
work and I think this also comes back to
the SEC complaint that it needs to be
documented any assumptions that are
there there needs to be support for that
and I think that's where a lot of
allocations fall short so in the
foundation obviously we review the
obvious document documentation purchase
purchase agreement merger agreements any
material contracts the acquired
workforce but also management interviews
and press releases press releases can be
a tricky thing if in the press release
it says well we bought this company
because it's great technology and then
we start the purchase price allocation
and then there's a little value in the
technology so that that would lead to an
audit question well what happened then
on the next slide preliminary analysis
this is really where we identify select
the intangible assets the ones that
would be valued and the ones that would
not be valued and and why not I don't
think they would be valued and that's
where we select the valuation approaches
and methods there are common methods for
certain intangibles there there's some
guidance but it's not set in stone so
you would expect that there is that
there's a discussion which which
approach would make sense or which
approach we would pick in a specific
valuation this is also where we look at
guideline public companies took an idea
of the industry we would look at royalty
rates market data if if necessary so we
use a relief from royalty method which
is often used to value trademarks and we
would collect the under the specific
targets data then in the financial
analysis this has a couple of steps we
would and I think Dirk showed that at
the beginning we start with the opening
balance sheet at fair value with with
all the other assets we look at the
consideration that was paid for the
acquisition cash equity could be equity
then the question is well what's the
value of that equity which might be
easier for a public company but can be a
little bit more tricky for a private
company specifically if they pay with
preferred stock so then you have a
complex cap table on the acquirer side
where they pay with with something
that's where the value is not readily
available so it would need another
valuation on that but unless there's
been a recent financing of that
preferred stock but auditors
specifically do not like it with
management just states the value that
that doesn't but not acceptable in the
audit world anymore and it can be even
trickier if if the purchase documents
say well we buy you for 30 million and
we pay in common stock that's worth 30
million
which is a statement in an agreement but
that may not be the fair value of that
purchase consideration which then leads
to a whole different ball of wax then of
course there's a contingent
consideration or can be which then also
would need to be valued so that could be
a simple probability weighting or it
could be a Monte Carlo simulation for
more complex works this there's one
comment I would want to make is a lot of
the purchase price allocation is based
on a multi period excess earnings method
which is a fancy way for saying a
discounted cash flow analysis but it's
based on a financial forecast and the
contingent consideration is often also
based on a financial forecast so there
there needs to be some cross-reference
and we can't have the situation where we
have one financial forecast say well
yeah this is going to be at a hundred
million in three years but we don't
think they're gonna get the earn-out
because they're never gonna meet it so
there needs to be some consideration how
that fits together then the analysis
step two we would build the financial
projection projections and these would
be as it specific I think on the next
slide step three that's where we
calculate all the rates of return so we
have the internal rate of return based
on the acquisition well this is how much
we paid and this is the cash flows that
we expect in the future then we have the
back the weighted average cost of
capital based on guideline companies so
it's an external and a cross reference
and then we have selected discount rates
for all assets which in the end will get
us all the way on the bottom to the war
our schedule the weighted average rate
of assets
schedule and ideally all all these three
risk metrics kind of come together and
very close okay
and then finally of course we want to
brief the stakeholders discuss the
evaluation approaches with the auditors
get get their buy-in or of course if we
are the auditors then we would expect to
be involved in the process
prepare draft report circulate obtain
buy in and then finalize the report one
point I want to make is that we found it
to be good practice to discuss with the
auditors not to just let them know after
we're done what methods were using but
to discuss the methods once we determine
what what intangibles we've identified
and then what methods are appropriate
we'll discuss out the auditors and make
sure we're on the same page I think we
had we have time for questions actually
we were running very short on time so we
want to make sure that we review with
you that during the seminar we we
covered an overview of the scope
requirements and common valuation
methodologies considered appropriate to
value a company's intangible assets we
also covered key PPA valuation
considerations and requirements of the
auditors we got several questions and
thank you very much we will have our
presenters reply to you via email to the
questions that you sent in and we thank
you for your interest in today's webinar
and also if you want to reach out
directly you can reach out to Alex
Floria on our team his email is located
there and he will connect you with the
appropriate expert on our valuations and
equity management solutions team thank
you again for joining our Mannino and we
hope you have a great day