Fair Value Considerations in AcquisitionsAugust 02, 2011
As economic pressures increase, many healthcare organizations are considering potential acquisitions or mergers in order to maximize new revenue streams, leverage fixed costs or consolidate areas of expertise. These transactions involve a great deal of careful due diligence and negotiation between the parties, consideration of potential compliance impacts and analysis of the impact to the organizations, its employees and the patients they treat. Sometimes lost in these important strategic and organizational deliberations, however, is the impact of an acquisition on a healthcare organization’s financial reporting. While the accounting for these transactions varies depending on how it is structured, many will be considered acquisitions which will require the acquired entity to revalue its assets and liabilities.
The accounting for acquisitions under generally accepted accounting principles (GAAP) requires the acquirer to establish the fair value of the assets, liabilities and any minority equity interest, if any, as of the date of acquisition. Certain assets and liabilities (for example, prepaid expenses and accounts payable) are fairly easy to value and can be directly traced to corresponding third party documents. Other balance sheet items, however, such as fixed assets, intangible assets or derivatives can be more complicated.
There are a few different approaches an organization can take in terms of valuing purchased assets. The organization can look within its own records for comparable assets it may already own. They can also look to outside market quotes in valuing, for example, medical equipment that is still readily available. Many organizations, however, find inherent challenges with these approaches if, for example, they do not currently own a similar asset or they are acquiring a piece of equipment that has been replaced by new technology.
Likewise, there are a few different approaches an organization can take in order to assign a fair value to assumed liabilities. For assumed debt, the organization can look at debt instruments with similar characteristics in terms of assigning a fair value. This approach can be effective if the organization is acquiring debt that is not publicly traded but possesses certain similarities to such public debt. Organizations may also find that the issuing bank can assist in helping an organization determine the fair value of a note or mortgage as of the acquisition date. For other liabilities, the organization could perform an analysis of expected payment streams in order to determine the present value of a liability. This can be an effective approach for liabilities such as workers’ compensation, deferred compensation, etc.
For larger or more complex assets and liabilities, many organizations are using third party valuation firms to assist in determining the related fair values. Though more costly than a purely internal valuation approach, the use of a third party firm can provide necessary expertise, eliminate an organization’s potential bias and improve the credibility of the resulting fair value determinations with outside auditors.
From an income statement perspective, only the financial activity of the acquired organization from the date of acquisition forward is included in the combined income statement. As such, the considerations applied when valuing purchased assets and liabilities can potentially have a material impact on the results of operations for the newly acquired or combined entity. For example, if acquired inventory is overvalued at the acquisition date and then reconciled and adjusted at fiscal year-end, that overvaluation would potentially come through current year expenses.
If your company has just completed or is in the process of contemplating an acquisition, it is important for your accounting/finance group to assess its internal resources and capabilities in terms of valuing the acquired assets and liabilities. For assets and liabilities that are expected to be a complex valuation effort, you should consider the use of a third party valuation firm to assist your company. This will minimize headaches at year-end and allow management to focus on other strategic and organizational considerations.
Jonathan Fink, CPA, is a Manager with BlumShapiro, based out of the company’s West Hartford office and specializing in accounting and auditing services for healthcare organizations. BlumShapiro is the largest regional accounting, tax and business consulting firm based in New England, with offices in West Hartford and Shelton, CT and Boston and Rockland, MA. The firm serves as business advisors for today’s leading middle market companies, non-profit organizations and government entities, working to strategically tailor and consistently deliver tested solutions for unlocking an organization’s full potential. For more information about BlumShapiro, visit blumshapiro.com.