Search within this section
Select a section below and enter your search term, or to search all click Business combinations and noncontrolling interests, global edition
Favorited Content
7.1 Common control transactions
Publication date: 28 Feb 2023
us Business combinations guide
Common control transactions occur frequently, particularly in the context of reorganizations, spinoffs, and initial public offerings. Combinations between entities that are under common control are excluded from the scope of the business combinations guidance in ASC 805. ASC 805-50-15-6 describes various examples of transfers and exchanges between entities that are under the control of the same parent.
Common control transactions are generally accounted for by the receiving entity based on the nature of the transactions. For example, transactions involving the transfer of an asset (such as an unoccupied building) are accounted for by the receiving entity at the carrying value of the asset transferred on a prospective basis. Conversely, transactions involving the transfer of a business ordinarily will result in a change in reporting entity for the receiving entity and require retrospective combination of the entities for all periods presented using the historical cost basis of the parent. Whether a transfer of net assets results in a change in reporting entity will depend on whether the nature of the net assets is more similar to a group of assets or a business. Additionally, transactions involving the routine transfer of inventory or the transfer of financial assets may be accounted for at fair value. See BCG 7.1.2 for further information.
There is no specific US GAAP guidance on how the transferring entity should account for the transfer of a business or an asset in a common control transaction. The transferring entity in a transaction involving entities under common control may be required to prepare its own separate financial statements. In these circumstances, additional complexities may arise in relation to the nature and the basis of the transfer. See BCG 7.1.4 for further information.
Transfers among entities with a high degree of common ownership, but with no single party controlling the entities, are not common control transactions, and are separately discussed in BCG 7.1.1.3.
7.1.1 Assessing whether common control exists
In ASC 805, “control” has the same meaning as “controlling financial interest” in ASC 810-10-15-8. A “controlling financial interest” is generally defined as ownership of a majority voting interest by one entity, directly or indirectly, of more than 50% of the outstanding voting shares of another entity, with certain exceptions (e.g., bankruptcy). While majority voting ownership interests are the most common form of control, control may also be established through other means, such as variable interests under the Variable Interest Entities Subsections of ASC 810-10 or contractual and other legal arrangements. US GAAP does not define the term “common control.” However, ASC 805-50-15-6 provides examples of the types of transactions that qualify as common control transactions.
The guidance in the Transactions between Entities under Common Control Subsections applies to combinations between entities or businesses under common control. The following are examples of those types of transactions:
a. An entity charters a newly formed entity and then transfers some or all of its net assets to that newly chartered entity.
b. A parent transfers the net assets of a wholly owned subsidiary into the parent and liquidates the subsidiary. That transaction is a change in legal organization but not a change in the reporting entity.
c. A parent transfers its controlling interest in several partially owned subsidiaries to a new wholly owned subsidiary. This transaction is a change in legal organization, but not in the reporting entity.
d. A parent exchanges its ownership interests or the net assets of a wholly owned subsidiary for additional shares issued by the parent’s less-than-wholly owned subsidiary, thereby increasing the parent’s percentage of ownership in the less-than-wholly owned subsidiary but leaving all of the existing noncontrolling interest outstanding.
e. A parent’s less-than-wholly owned subsidiary issues its shares in exchange for shares of another subsidiary previously owned by the same parent, and the noncontrolling shareholders are not party to the exchange. That is not a business combination from the perspective of the parent.
f. A limited liability company is formed by combining entities under common control.
g. Two or more not-for-profit entities (NFPs) that are effectively controlled by the same board members transfer their net assets to a new entity, dissolve the former entities, and appoint the same board members to the newly combined entity.
An assessment of whether common control exists is based on all of the facts and circumstances surrounding the relationships between the parties (both direct and indirect). If consolidated financial statements were prepared by a parent entity, generally, the entities that were consolidated are under common control.
7.1.1.1 Common control and control groups
There is no definition of common control in the Accounting Standards Codification. The Emerging Issues Task Force attempted to define common control in EITF Issue No. 02-5, Definition of “Common Control” in Relation to FASB Statement No. 141 (EITF 02-5), but did not reach a consensus. Therefore, in the absence of definitive guidance issued by the FASB, it is helpful to consider the SEC staff’s conclusions expressed during the deliberations in EITF 02-5 that common control exists between (or among) separate entities in the following situations:
- An individual or enterprise holds more than 50% of the voting ownership interest of each entity.
- A group of shareholders holds more than 50% of the voting ownership interest of each entity, and contemporaneous written evidence of an agreement to vote a majority of the entities’ shares in concert exists.
- Immediate family members (married couples and their children, but not their grandchildren) hold more than 50% of the voting ownership interest of each entity (with no evidence that those family members will vote their shares in any way other than in concert). Entities may be owned in varying combinations among living siblings and their children. Those situations require careful consideration regarding the substance of the ownership and voting relationships.
Due to the lack of other authoritative guidance, the SEC staff’s guidance is widely applied by public and private companies, although the FASB has indicated in paragraph BC19 in the Basis for Conclusions of ASU 2018-17, Consolidation (Topic 810): Targeted Improvements to Related Party Guidance for Variable Interest Entities, that a broader interpretation (such as considering grandparents and grandchildren together when evaluating common control) may be supportable for private companies. Judgment is required to determine whether common control exists in situations other than those described above.
Two examples from a 1997 SEC staff speech illustrate the existence of common control through a control group:
- Two brothers own a 60% controlling interest in a public company. Their father owns 100% of two other companies that provide services to the company that is controlled by the two brothers. If these three companies merged into a single entity, would the brothers and the father constitute a control group, thus permitting historical cost accounting for the interests owned by the father and two brothers? The SEC staff indicated that, absent evidence to the contrary, it would not object to the assertion that the immediate family is a control group.
- One person has ownership in three entities: 60% in two, and 45% in the third. In the third entity, the 45% shareholder has an agreement with the entity’s employee owners that stipulates that the 45% shareholder must repurchase the employees’ shares if they are terminated or leave the company voluntarily. In addition, the 45% shareholder has the ability to cause a termination of the employee owners. The question is whether these three entities are under common control. The SEC staff believes that for the third entity to be under common control, the employee owners would have to give the 45% shareholder sufficient voting proxies to ensure the shareholders act and vote in concert.
Example BCG 7-1 provides additional guidance related to a transaction when common management may exist.
EXAMPLE BCG 7-1
Sale between two real estate investment trusts (REIT) with a common manager
Sale between two real estate investment trusts (REIT) with a common manager
Company A, a public REIT, sells its 25% interest in a real estate property to Company B, which is also a REIT. Company A and Company B are not entities under common control, but they are managed by the same third party. The common manager does not control either Company A or Company B through the management agreements.
Does the sale represent a transaction between entities under common control?
Analysis
Company A and Company B are not entities under common control, but rather are entities with common management. The existence of a common manager in and of itself would not result in the transaction being accounted for as a transaction under common control that would preclude recognition of a real estate sales transaction and related gain or loss on the sale by Company A.
7.1.1.2 Consolidation under the VIE model (common control)
In addition to voting ownership interests, control may be established through the ownership of variable interests that result in consolidation by a primary beneficiary under the Variable Interest Entities subsections of ASC 810-10. ASC 805-50-15-6A indicates that the guidance in the Transactions between Entities under Common Control Subsections (ASC 805-50) does not apply to the initial measurement by a primary beneficiary of a VIE if the primary beneficiary and the VIE are under common control. However, the guidance in ASC 810 for such circumstances is similar to the common control guidance in ASC 805-50.
ASC 810-10-30-1 describes a primary beneficiary’s accounting for a VIE under common control.
If the primary beneficiary of a variable interest entity (VIE) and the VIE are under common control, the primary beneficiary shall initially measure the assets, liabilities, and the noncontrolling interest of the VIE at amounts at which they are carried in the accounts of the reporting entity that controls the VIE (or would be carried if the reporting entity issued financial statements prepared in conformity with generally accepted accounting principles [GAAP]).
ASC 810-10-30-1 requires that there be no remeasurement of a VIE’s assets and liabilities upon consolidation if the primary beneficiary and VIE are under common control. For example, assume Company A and Company B are under the common control of Company XYZ. An agreement is entered into between Company A and Company B that results in Company B obtaining a variable interest in Company A. After performing an analysis under the Variable Interest Entities Subsections of ASC 810-10, Company A is determined to be a VIE and Company B is identified as the primary beneficiary. Following the guidance in ASC 810-10-30-1, the net assets of Company A would be recorded by Company B at the carrying amounts in Company XYZ’s financial statements. In this case, Company B’s financial statements and financial information presented for prior years should be retrospectively adjusted in accordance with the guidance in BCG 7.1.3.2.
A reporting entity that is a private company is not required to apply the VIE guidance to legal entities under common control (including common control leasing arrangements) if the parent and the legal entities being evaluated for consolidation are not public business entities. Refer to CG 2.3.5.
7.1.1.3 Entities with a high degree of common ownership
A high degree of common ownership exists when multiple shareholders hold similar ownership interests in multiple entities, but no one shareholder controls the entities. Transfers among entities that have a high degree of common ownership are not common control transactions. However, such transfers may be accounted for in a manner similar to a common control transaction if the transfers lack economic substance. For example, a transaction in which the shareholders have identical ownership interests before and after the transaction generally is considered to lack economic substance.
The SEC staff has historically looked to the guidance provided in FASB Technical Bulletin No. 85-5, Issues Relating to Accounting for Business Combinations (FTB 85-5), to evaluate whether a transaction lacked economic substance. In an assessment of an exchange between a parent and minority shareholder in one of the parent’s partially owned subsidiaries, paragraph 6 states that if the minority interest does not change and in substance, the only assets of the combined entity are those of the partially owned subsidiary prior to the exchange, a change in ownership has not taken place. In this scenario, the transaction would be accounted for based on the carrying amounts of the partially owned subsidiary’s assets and liabilities.
The SEC staff has stated that if the ownership percentages and interests are not, in substance, the same before and after the transaction, a substantive transaction occurred, and the staff would object to accounting similar to a transaction under common control. Transfers of businesses that have been determined to have economic substance should be accounted for using the acquisition method.
FTB 85-5 was superseded by the issuance of ASC 805. However, we believe the underlying guidance contained in paragraph 6 continues to be relevant until the SEC staff indicates otherwise. That is, we believe one should evaluate whether a transfer among entities with a high degree of common ownership lacks economic substance when determining the appropriate accounting.
Questions arise as to whether a small change in ownership percentages can be considered a substantive transaction. There is no bright line in making such a determination. We are aware that the SEC staff has evaluated situations when the minority-ownership percentage changed by a relatively small amount, yet concluded that there was a substantive economic change in ownership interests, which precluded historical cost accounting. In assessing changes in ownership, consideration should be given to all interests outstanding on a fully diluted basis. Other economic factors (beyond ownership percentages) may indicate a transaction has economic substance.
Example BCG 7-2 illustrates a transaction that lacks economic substance between entities with a high degree of common ownership.
EXAMPLE BCG 7-2
Transfer between entities with a high degree of common ownership that lacks economic substance
Company A and Company B are each owned 40% by Investor X, 40% by Investor Y, and 20% by Investor Z. Company A and Company B are each considered a business under ASC 805. On December 31, 20X1, Company A is merged with and into Company B. Each of the investor’s ownership interests in the merged entity is the same before and after the transaction.
How should the transfer be recorded in Company B’s financial statements?
Analysis
Although no single investor controls Company A and Company B, each investor’s ownership interest in the underlying net assets in the combined entity is the same before and after the transaction. As a result, the transaction is deemed to lack economic substance, and Company B would generally record the assets and liabilities of Company A at the carrying amounts recorded in Company A’s financial statements in accordance with the guidance contained in ASC 805-50. See BCG 7.1.3.2 for further information.
The investors should consider any basis differences between the carrying amount of their equity method investments in Company A and their proportionate interests in the equity of Company A as included in Company B’s financial statements. See EM 3.3.1 for additional information on the accounting for basis differences.
7.1.1.4 Up-C structures
Certain companies that are pass-through entities for tax purposes (e.g., partnerships or certain limited liability companies) may contemplate a public offering using an umbrella partnership C corporation (“Up-C”) structure. In this structure, the existing equity holders of a pass-through entity amend the existing entity’s governance structure to enable a newly formed corporation to have a controlling financial interest in the entity. Concurrently, the equity holders of the pass-through entity receive noneconomic voting shares (e.g., Class B common stock) of the corporation for each share or unit held in the existing entity, while retaining their economic interest in the pass-through entity.
Subsequent to the reorganization, the newly formed corporation will issue common shares with both economics and voting rights (e.g., Class A common stock) to public shareholders in the public offering. These transactions allow the pass-through entity’s equity holders to retain the tax benefits of the pass-through entity while also providing a path to future liquidity as the equity holders are given the right to exchange their partnership (or similar) interests in the entity into common stock of the publicly traded corporation.
When Up-C IPOs are structured such that the owners of the operating company retain control of the operations through ownership of a majority of the voting rights in the publicly traded company, the transaction may involve a high degree of common ownership and therefore be accounted for in a manner similar to a common control transaction. Refer to BCG 7.1.1.3 for more information.
Figure BCG 7-1 provides a simplified organizational structure for an Up-C transaction pre-IPO and post-IPO:
Figure BCG 7-1
Up-C organizational structure
Up-C organizational structure
Pre-IPO
Post-IPO
7.1.2 Nature of the transfer (common control)
The accounting for common control transactions is based on the nature of what is transferred or exchanged as part of the transaction. Figure BCG 7-2 provides a decision tree which may help determine how the transaction should be measured and presented for financial reporting purposes.
Figure BCG 7-2
Accounting for common control transactions
Accounting for common control transactions
1When nonrecurring transactions (e.g., transfers of long-lived assets) involving entities under common control occur, any nonfinancial assets are recorded at the parent’s historical carrying values in such assets by the receiving entity. However, for recurring transactions for which valuation is not in question, such as routine inventory transfers, the exchange price is normally used regardless of whether a common control relationship exists. Depending on the nature of the transaction, nonrecurring transfers of financial assets may be at fair value (i.e., qualify for sale accounting) or at historical cost at the subsidiary level, by the receiving entity. See BCG 7.1.2.1 for more information on transfers of financial assets involving entities under common control.
2As discussed further below, the determination of whether to account for the transaction prospectively or retrospectively will depend on whether the nature of the net assets or equity interests is more similar to assets or a business.
|
ASC 805-50-05-5 states that some transfers of net assets or exchanges of shares between entities under common control result in a change in reporting entity. Transfers of a business or net assets between entities under common control that result in a change in reporting entity require retrospective combination of the entities for all periods presented as if the combination had been in effect since the inception of common control. See BCG 7.1.3.2 for further information. Transfers of assets are accounted for prospectively.
The ASC Master Glossary defines a change in reporting entity.
ASC Master Glossary
Change in the reporting entity: A change that results in financial statements that, in effect, are those of a different reporting entity. A change in the reporting entity is limited mainly to the following:
- Presenting consolidated or combined financial statements in place of financial statements of individual entities
- Changing specific subsidiaries that make up the group of entities for which consolidated financial statements are presented
- Changing the entities included in combined financial statements.
Neither a business combination accounted for by the acquisition method nor the consolidation of a VIE pursuant to Topic 810 is a change in reporting entity.
There is no specific guidance on differentiating asset transfers from net asset transfers. In practice, transfers of businesses are usually considered to be net asset transfers and non-business transfers as asset transfers. However, judgment must be applied in determining whether a transaction constitutes an asset transfer (that would not result in a change in reporting entity), or a transfer of net assets (that would result in a change in reporting entity). Some factors that may be helpful in making the determination include:
- Determining whether the assets transferred constitute a business under ASC 805
- Determining whether the assets transferred constitute an asset group as defined in ASC 360-10
- Making a qualitative assessment of the characteristics of the assets transferred in conjunction with the characteristics of a business described in Article 11 of Regulation S-X; see FSP 17.4.16.2 for further information
This list is not intended to be all inclusive, and all facts and circumstances of each transfer should be considered in determining whether the transfer constitutes the transfer of an asset or the transfer of net assets.
Sometimes a new parent company may be added to an existing company (or consolidated group of companies) by setting up a new holding company (see BCG 2.3.1 for additional information on “NewCos”). The shareholders of the existing company exchange their shares for shares in the new company in proportion to their existing ownership interests (i.e., share for share exchange). In such cases, there is no change in the substance of the reporting entity. Therefore, absent basis differences between a controlling owner and the parent company, the consolidated financial statements of the new company should reflect the accounting of the previous company (or existing consolidated group), except that the legal capital (i.e., issued and outstanding capital stock or membership interests) would reflect the capital of the new parent company.
Another type of transaction between entities under common control is a downstream merger, when a partially owned subsidiary exchanges its common shares for the outstanding voting common shares of its parent. The end result is that the consolidated net assets are owned by a single stockholder group that includes both the former shareholders of the parent and the former shareholders of the noncontrolling interest in the subsidiary. A downstream merger is accounted for as if the parent acquired the shares of the subsidiary, regardless of the legal form of the transfer. Consistent with a reverse merger, there is no change in basis for the assets and liabilities. The shareholders’ equity of the surviving entity will reflect that of the former parent, giving effect to the acquisition of the noncontrolling interest in accordance with ASC 810-10-45-23.
7.1.2.1 Transfers of financial assets (common control)
ASC 860-10-55-78 indicates that a transfer of a financial asset between subsidiaries of a common parent would be accounted for as a sale in the transferring subsidiary’s standalone financial statements if all the conditions of ASC 860-10-40-5 are met and the transferee subsidiary is not consolidated in the transferring entity's standalone financial statements. This guidance does not apply to transfers of financial assets between a parent company and its subsidiaries. This guidance also does not apply to the transfer of nonfinancial assets, or the shares or net assets of a subsidiary that are not principally financial assets, between entities under common control. Rather, those transactions should generally be recorded at historical cost by the receiving subsidiary as a common control transaction. Example BCG 7-3 illustrates the accounting for transactions involving the transfer of financial assets between subsidiaries of a common parent.
EXAMPLE BCG 7-3
Transfer of a financial asset between subsidiaries of a common parent
Company A and Company B are entities under common control, with Parent owning 100% of both companies. Company A holds debt securities accounted for as available-for-sale under ASC 320-10. The fair value of the debt securities is $1 million with a cost basis of $800,000 at December 31, 20X1. Company A recorded the $200,000 unrealized gain in these marketable securities in other comprehensive income (this example ignores tax effects). On December 31, 20X1, Company A transfers the marketable securities to Company B. Company A does not consolidate Company B into its separate-entity financial statements.
How should Company A record the transfer?
Analysis
Since debt securities are financial assets and Company A does not consolidate Company B, Company A would apply ASC 860-10-55-78 to this transaction. If Company A determines that this transaction qualifies as a sale in accordance with ASC 860-10-40-5, then Company A would account for the transfer of the debt securities at their fair value and record a gain of $200,000 in its financial statements. Parent, however, would not recognize a gain.
7.1.3 Accounting by the receiving entity (common control)
This section provides guidance on the accounting and reporting of the entity that receives net assets or equity interests from an entity that is under common control.
7.1.3.1 Basis of transfer (common control)
When accounting for a transfer of assets or exchange of shares between entities under common control, the receiving entity should recognize the assets and liabilities transferred at the historical cost of the parent of the entities under common control in accordance with ASC 805-50-30-5. This may be referred to as use of the ultimate parent's basis. Use of the ultimate parent's basis is important as the transferring entity's carrying values sometimes differ from the parent's basis because pushdown accounting has not been applied.
Example BCG 7-4, Example BCG 7-5, Example BCG 7-6, Example BCG 7-7, and Example BCG 7-8 provide additional guidance for determining the proper basis at which to record transfers in common control transactions.
EXAMPLE BCG 7-4
Accounting by the receiving subsidiary
Accounting by the receiving subsidiary
Parent owns 100% of both Company A and Company B. Parent will contribute its ownership interest in Company B to Company A. Parent’s basis in Company B is $200 in its consolidated financial statements. The carrying amount of Company B’s assets and liabilities in its standalone financial statements is $150 because Parent did not push down its basis to Company B’s standalone financial statements.
How should the transfer be recorded in Company A’s consolidated financial statements?
Analysis
The transaction represents a transaction between entities under common control. Pursuant to ASC 805-50-30-5, the parent’s basis in Company B (i.e., $200) should be reflected in Company A’s consolidated financial statements upon the transfer.
EXAMPLE BCG 7-5
Parent sells division to partially owned subsidiary
Parent sells division to partially owned subsidiary
Company A owns 80% of Company B. Company A plans to sell one of its divisions to Company B with a book value of $150 million and an estimated fair value of $250 million for $250 million in cash.
How should Company B record the transaction?
Analysis
This is a transaction between entities under common control because Company A controls Company B. Company B should record its investment in the division at the parent’s basis of $150 million, and the excess paid over the parent’s basis of the transferred division of $100 million should be charged to equity as a deemed dividend.
EXAMPLE BCG 7-6
Subsidiary sells its wholly owned subsidiary to another subsidiary of its parent
Subsidiary sells its wholly owned subsidiary to another subsidiary of its parent
Company A and Company B are controlled by the same corporate parent, Company P. Company A sells one of its wholly owned subsidiaries, Company C, to Company B for $115 million in cash. The fair value of Company C, as determined by an independent third party, is $115 million and its book value is $100 million. There is no basis difference between Company A’s carrying value of its investment in Company C and the underlying equity of Company C. Further, there is no basis difference between Company P’s carrying value of its investment in Company A and the underlying equity of Company A.
How should Company B (receiving entity) account for the transaction?
Analysis
This is a transaction between entities under common control. Even though the fair value of Company C has been determined by an independent third party, ASC 805-50-30-5 indicates that assets and liabilities transferred between entities under common control should be accounted for at the parent’s historical cost. Company B should record its investment in Company C at the parent’s basis of $100 million, and the excess paid over the parent’s basis in Company C of $15 million should be charged to equity as a deemed dividend.
EXAMPLE BCG 7-7
Parent transfers acquired entity to newly formed subsidiary
Parent transfers acquired entity to newly formed subsidiary
Parent acquired Company A for $7 million. Company A was then transferred to a newly formed subsidiary of Parent, Company B, for consideration of $1 million in cash and a $8 million note. The initial capitalization of Company B was $1 million.
How should Company B record the transaction?
Analysis
Company B should record the net assets of Company A at Parent’s basis of $7 million. Accordingly, the financial statements of Company B should reflect the net assets of Company A, a note payable to the parent of $8 million, and a deemed dividend of $2 million resulting in a net shareholder’s deficit of $1 million.
EXAMPLE BCG 7-8
Property sold to subsidiary, and then sold to a third party
Property sold to subsidiary, and then sold to a third party
Company A agrees to sell a building with a book value of $20 million and a fair value of $35 million to a third party. Immediately prior to consummation of the sale, Company A sells the building to its subsidiary, Subsidiary B, for $20 million and the subsidiary sells the building to the third party for $35 million.
How should Subsidiary B record the additional sale proceeds?
Analysis
Subsidiary B should record the additional $15 million sales proceeds as a contribution to capital. In substance, since the subsidiary did not previously hold the building as an operating asset, the transaction may be viewed as a dividend distribution of $20 million from Subsidiary B to Company A with a concurrent capital contribution of $35 million from Company A to Subsidiary B. However, the gain on sale of $15 million would be credited to income in Company A’s consolidated financial statements.
7.1.3.2 Presenting a change in reporting entity (common control)
If a transaction combines two or more commonly controlled entities that historically have not been presented together, the resulting financial statements are effectively considered to be those of a different reporting entity. The change in reporting entity requires retrospective combination of the entities for all periods presented as if the combination had been in effect since inception of common control in accordance with ASC 250-10-45-21. The following guidance should be applied when preparing financial statements and related disclosures for the receiving entity:
The financial statements of the receiving entity should report results of operations for the period in which the transfer occurs as though the transfer of net assets or exchange of equity interests had occurred at the beginning of the period. Results of operations for that period will thus comprise those of the previously separate entities combined from the beginning of the period to the date the transfer is completed and those of the combined operations from that date to the end of the period. By eliminating the effects of intra-entity transactions in determining the results of operations for the period before the combination, those results will be on substantially the same basis as the results of operations for the period after the date of combination. The effects of intra-entity transactions on current assets, current liabilities, revenue, and cost of sales for periods presented and on retained earnings at the beginning of the periods presented should be eliminated to the extent possible.
The nature of and effects on earnings per share (EPS) of nonrecurring intra-entity transactions involving long-term assets and liabilities need not be eliminated. However, paragraph 805-50-50-2 requires disclosure.
Similarly, the receiving entity shall present the statement of financial position and other financial information as of the beginning of the period as though the assets and liabilities had been transferred at that date.
Financial statements and financial information presented for prior years also shall be retrospectively adjusted to furnish comparative information. All adjusted financial statements and financial summaries shall indicate clearly that financial data of previously separate entities are combined. However, the comparative information in prior years shall only be adjusted for periods during which the entities were under common control.
The notes to the financial statements of the receiving entity shall disclose the following for the period in which the transfer of assets and liabilities or exchange of equity interests occurred:
- The name and brief description of the entity included in the reporting entity as a result of the net asset transfer or exchange of equity interests
- The method of accounting for the transfer of net assets or exchange of equity interests.
The receiving entity also shall consider whether additional disclosures are required in accordance with Section 850-10-50, which provides guidance on related party transactions and certain common control relationships.
When there is a change in reporting entity, companies may need to determine a predecessor entity in certain common control transactions as discussed in BCG 7.1.3.3.
7.1.3.3 Determining the receiving entity (common control)
Similar to the concept in the reverse acquisition guidance, the legal receiving entity may not be deemed the receiving entity for accounting purposes in a common control transaction. When both entities were under common control during the entire reporting period and both entities reflected the parent’s basis, it is not necessary to determine which entity is the receiving entity because doing so has no impact on the retrospectively adjusted financial statements. Determination of the receiving entity is necessary when one or more of the combining entities does not reflect the parent’s basis as the assets and liabilities of the transferred entity should be recognized by the receiving entity at the ultimate parent’s basis. See Example BCG 7-4.
When the combining entities have not been under common control for the entire period presented, the receiving entity for accounting purposes should be determined from the perspective of the parent company. As the parent controls the form of the transaction, different accounting should not result solely based on the legal form of the transaction. Thus, the entity that first came under control of the parent is often presented as the accounting receiving entity regardless of the legal form of the transaction.
Example BCG 7-9 illustrates how to determine the receiving entity in a common control transaction.
EXAMPLE BCG 7-9
Determining the receiving entity in a common control transaction
Determining the receiving entity in a common control transaction
Parent has two wholly-owned subsidiaries: Subsidiary A, which was acquired in 20X1, and Subsidiary B, which was acquired in 20X2. In 20X3, Subsidiary A is merged with and into Subsidiary B, and Subsidiary B is the surviving entity. Subsidiary A and Subsidiary B represent 20% and 80%, respectively, of the total net assets of the combined company. Parent’s basis has not been pushed down into the separate accounts of Subsidiary A or Subsidiary B and therefore, basis differences exist between Parent and each subsidiary.
What entity is the receiving entity for accounting purposes?
Analysis
Subsidiary A is considered the receiving entity as it was the entity that first came under control of Parent (in 20X1). Subsidiary A’s assets would continue to be reflected at Subsidiary A’s historical cost in the financial statements of the combined entity. Subsidiary B’s net assets, however, should be reflected at Parent’s basis.
Because the application of pushdown accounting is an optional election for each acquired company within its separate financial statements, Subsidiary A could elect to apply pushdown accounting for comparability. However, as Subsidiary A had not initially applied pushdown accounting, such an election in this subsequent period would be considered a change in accounting principle in accordance with ASC 250, which requires assessment that the change is preferable. If it were to make this election, Subsidiary A would retrospectively adjust its reporting basis as of the date of the change-in-control event (i.e., when it was acquired in 20X1). See BCG 10.1.5 for additional information.
For purposes of SEC reporting, Regulation S-X requires financial statements for the registrant and its predecessor(s). Often, the receiving entity for accounting purposes is also the predecessor for SEC reporting purposes. However, this is not always the case.
The term predecessor is defined in Section 1170 of the Division of Corporation Finance’s Financial Reporting Manual. However, this guidance is not always sufficiently helpful to determine which entities should be considered the predecessor in initial registration statements. At the 2015 AICPA Conference on Current SEC and PCAOB Developments, an SEC staff member commented that when determining a predecessor entity, factors to consider may include the size of the entities, the relative fair value of the entities, the ongoing management structure, and the order in which the entities were acquired. While not specific to common control transactions, this speech indicates that the predecessor entity determination should be made based on the specific facts and circumstances. No one factor is determinative.
Example BCG 7-10 illustrates how to determine the predecessor entity for SEC reporting and the financial statement presentation for the merged entity.
EXAMPLE BCG 7-10
Determining the predecessor entity for SEC reporting
Determining the predecessor entity for SEC reporting
Parent has two wholly owned subsidiaries: Subsidiary A, which was acquired on July 1, 20X1, and Subsidiary B, which was acquired on October 1, 20X2. On March 31, 20X3, Subsidiary A is merged with and into Subsidiary B, and Subsidiary B is the surviving entity. Subsidiary A and Subsidiary B represent 20% and 80%, respectively, of the total net assets of the combined company. There are no basis differences between Parent and Subsidiary A or Subsidiary B (i.e., both subsidiaries elected pushdown accounting at the time of their respective acquisitions).
The combined entity is preparing financial statements for SEC reporting purposes. For SEC reporting purposes, which entity should be presented as the predecessor to the combined company? How should the financial statements be presented for the merged entity?
Analysis
For SEC reporting purposes, although Parent obtained control of Subsidiary A first, it may be appropriate for Subsidiary B to be considered the predecessor entity after considering each of the following factors:
- The relative size of the entities;
- The relative fair value of the entities;
- The ongoing management structure; and
- The order in which the entities were acquired.
If Subsidiary B is considered the predecessor, the year ended December 31, 20X1 and the period from January 1, 20X2 to September 30, 20X2 would reflect the operations of Subsidiary B on a historical cost basis prior to its acquisition by Parent. As Subsidiary B elected pushdown accounting, a blackline would separate the periods before and after its acquisition by Parent on October 1, 20X2 to highlight the new basis of accounting resulting from this change in control.
The successor period from October 1 through December 31, 20X2 and the year ended December 31, 20X3 would reflect the operations of the combined entity (i.e., the operations of Subsidiary A and Subsidiary B) as October 1, 20X2 is the earliest date on which both subsidiaries were under common control. As the receiving entity, Subsidiary B would recognize the assets and liabilities of Subsidiary A (the transferred entity) based on Parent’s acquisition accounting basis. The use of Parent’s basis is required by ASC 805-50-30-5 regardless of whether Subsidiary A elected pushdown accounting in its standalone financial statements.
The receipt of Subsidiary A by Subsidiary B does not itself trigger blackline presentation. This is because from Subsidiary B’s perspective, the transaction is a common control merger in which it is considered the receiving entity as of the date when common control was achieved (i.e., October 1, 20X2). Therefore, if Subsidiary B had not elected pushdown accounting, the financial statements would not include a blackline, but rather would reflect the historical cost basis of Subsidiary B for all periods, and the acquisition of Subsidiary A on October 1, 20X2 as a business combination.
Subsidiary A’s standalone financial statements may be required under Regulation S-X Rule 3-05.
7.1.3.4 Noncontrolling interest in a common control transaction
The accounting for any noncontrolling interest should follow the guidance in ASC 810-10 if one or more entities in a common control transaction are partially owned by the parent. While noncontrolling interest is recorded at fair value at the acquisition date in a business combination under ASC 805, in a common control transaction, by definition, there is no change in control. Under ASC 810-10, changes in the parent’s ownership interest while it retains a controlling financial interest in its subsidiary are accounted for as equity transactions. The carrying amount of the noncontrolling interest should be adjusted to reflect the change in the noncontrolling shareholders’ ownership interest.
Example BCG 7-11 illustrates the accounting for the noncontrolling interest in a common control transaction.
EXAMPLE BCG 7-11
Acquisition of a noncontrolling interest in a common control transaction
Acquisition of a noncontrolling interest in a common control transaction
Parent owns 100% of Subsidiary A and 80% of Subsidiary B. Company X owns 20% of Subsidiary B.
Parent transfers its investment in Subsidiary B to Subsidiary A in a common control transaction.
In conjunction with the transaction, Company X exchanges its 20% interest in Subsidiary B for a 10% interest in Subsidiary A.
Also assume the following additional facts:
Fair value |
Net book value |
|
Subsidiary A |
$500 |
$200 |
Subsidiary B |
$500 |
$300 |
- Parent’s basis in 100% of Subsidiary A is $200.
- Parent’s basis in 80% of Subsidiary B is $240.
- In Parent’s financial statements, Company X’s noncontrolling interest in Subsidiary B is $60.
- Fair value of 10% of Subsidiary A and Subsidiary B combined is $100.
How should the transaction be recorded in the financial statements of Parent and Subsidiary A?
Analysis
Parent’s contribution of Subsidiary B to Subsidiary A – Parent’s financial statements
The transfer by Parent of its investment in Subsidiary B to Subsidiary A is a common control transaction and would be recorded at Parent’s carrying amount of $240. The transaction would have no impact on Parent’s consolidated financial statements.
Subsidiary A’s acquisition of Company X’s noncontrolling interest in Subsidiary B in exchange for a 10% noncontrolling interest in subsidiary A – Parent’s financial statements
Subsidiary A acquires Company X’s noncontrolling interest in Subsidiary B in exchange for a 10% noncontrolling interest in Subsidiary A. Under ASC 810-10, the transaction is accounted for as an equity transaction with the noncontrolling interest in the consolidated financial statements of Parent and would be recorded as follows:
NCI—subsidiary B |
$60 1 |
|
Equity/APIC—parent |
$10 2 |
|
NCI—subsidiary A |
$50 3 |
|
1Elimination of Company X’s noncontrolling interest in Subsidiary B.
2The net increase in Parent’s equity in the consolidated financial statements as a result of the transaction with the noncontrolling interest is calculated as follows: |
||
Net book value |
20% NCI in Subsidiary B |
10% NCI in Subsidiary A |
Total adjustment |
||||
Subsidiary A |
$200 |
— |
$20 |
$20 |
|||
Subsidiary B |
$300 |
$(60) |
30 |
(30) |
|||
Adjustment to Parent’s APIC |
$(60) |
$50 |
$(10) |
||||
The effect of the $60 reduction in the noncontrolling interest in Subsidiary B and $50 increase in the noncontrolling interest in Subsidiary A results in a net $10 increase in Parent’s equity in the consolidated financial statements. The changes in the carrying value of the noncontrolling interests are accounted for through equity/APIC. The noncontrolling interest is only recorded at fair value at the date of a business combination.
3Recording of the new noncontrolling interest in Subsidiary A (consolidated net book value of $500 x 10%).
|
|||||||
Other Considerations – Parent’s financial statements
If Company X did not participate in the exchange (i.e., Company X maintained its 20% interest in Subsidiary B), the transaction would simply be accounted for as a transfer of Parent’s investment in Subsidiary B to Subsidiary A at Parent’s historical cost.
Recasting of historical financial statements – Subsidiary A
The common control transfer of Subsidiary B to Subsidiary A represents a change in reporting entity for Subsidiary A. Subsidiary A would recast its historical financial information. The periods prior to the transfer would be adjusted to include the results of Subsidiary B with a 20% noncontrolling interest, reflecting the ownership interest of Company X. On the date of transfer, and as a result of the exchange of Company X’s 20% ownership in Subsidiary B for a 10% ownership in Subsidiary A, Subsidiary A would eliminate the noncontrolling interest in its financial statements prospectively.
7.1.3.5 Goodwill and reporting unit assessment (common control)
When an entity prepares financial statements for entities under common control following the guidance in ASC 805-50, it must consider goodwill impairment testing. A frequent question is whether the historical annual goodwill impairment tests should be performed assuming the transferred entity was integrated into the combined entity’s reporting units at the inception of common control or if the transferred entity is its own separate reporting unit. While there is no specific guidance, two alternative approaches have developed in practice.
The first approach is based on an interpretation of the guidance in ASC 805-50 that indicates the new reporting entity’s financial statements should result in financial reporting similar to the pooling-of-interest method. Under this premise, the combined entity should reassess its historical reporting units for goodwill impairment testing as if the transferred entity actually had been transferred at the inception of common control. This method requires management of the new reporting entity to make assumptions about how the financial reporting of the entity would have been structured and managed in historical periods, which may not reflect how the entities were actually managed during those periods.
The alternative view is that the entities being combined should utilize the historical reporting unit structures of each of the combined entities. In the event the transferred entity, the receiving entity, or both did not have stand-alone reporting requirements, the entity (the transferring entity, the receiving entity, or both) would be treated as its own reporting unit for historical goodwill impairment testing purposes. At the time of the common control transaction, the reporting entity would need to reassess the reporting units for testing goodwill impairment going forward. To the extent any changes are made to the reporting units (e.g., the formerly separate entities treated as separate reporting units for historical goodwill testing do not remain separate reporting units), the reporting entity would need to reassign goodwill in accordance with ASC 350-20-35-45. See BCG 9.4.4 for additional information on reassigning goodwill when the reporting entity’s reporting unit structure changes.
Under either approach, the amount of goodwill associated with the transferred entity should be determined consistent with the guidance in CO 4.2.7.
To illustrate both alternatives, assume Parent Company P has four wholly owned subsidiaries: A, B, C, and D. Subsidiary A comprises a single reporting unit and subsidiaries B, C, and D comprise a second single reporting unit.
Subsidiary A previously prepared stand-alone financial statements and it constituted a single reporting unit for goodwill impairment testing purposes. On December 31, 20X1, Parent Company P transfers its interest in Subsidiary B to Subsidiary A in a common control transaction, resulting in a change in reporting entity.
Under the first approach, management of Subsidiary A would be required to determine how the combined operations of Subsidiary A and Subsidiary B would have been managed had the operations of Subsidiary B been transferred at the beginning of the earliest reporting period.
Under the second alternative, the historical single reporting unit of Subsidiary A would remain unchanged and the operations of Subsidiary B would have been treated as a second stand-alone reporting unit prior to the actual transfer date. As noted above, any changes to the reporting unit structure at the time of the common control transaction would result in a reassignment of goodwill.
Regardless of the method used, the consolidated financial statements of Parent Company P will account for this change in reporting structure prospectively. Goodwill should be reassigned to the affected reporting units by using a relative fair value approach. See BCG 9.4.4 for further information.
7.1.3.6 Deferred taxes (common control)
The guidance in the Transactions Between Entities Under Common Control Subsections of ASC 805-50 does not specifically address the accounting for the deferred tax consequences that may result from a transfer of net assets or the exchange of equity interests between entities under common control. Although such a transaction is not a pooling-of-interests, we believe the historical guidance in FAS 109, paragraphs 270-272, which addresses the income tax accounting effects of a pooling-of-interests transaction, should be applied by analogy. See TX 10.10 for further information.
7.1.3.7 Last-In, First-Out (LIFO) inventories (common control)
In a nontaxable transfer of net assets or exchange of equity interests between entities under common control, any LIFO inventories of the entities are carried over at the historical LIFO basis and with the same LIFO layers for financial reporting and for tax purposes. In a taxable transfer or exchange, LIFO inventories of the entities are carried over at the same historical LIFO basis and with the same LIFO layers for financial reporting purposes. However, for income tax purposes, the LIFO inventories of one of the entities are stepped up and considered purchases of the current year. Deferred taxes arising from differences in the financial reporting and income tax bases of LIFO inventories resulting from a taxable transfer or exchange should be credited to contributed capital.
7.1.3.8 Conforming accounting policies (common control)
Subsidiaries of a common parent generally have similar accounting policies; however, US GAAP does not require them to be the same. Therefore, in a common control transaction, the receiving entity and the transferring entity may have differing accounting policies. For instance, one entity may apply last-in, first-out for inventory while the other uses a different method for similar types of inventory. ASC 805-50-30-6 describes the accounting when this occurs.
In some instances, the entity that receives the net assets or equity interests (the receiving entity) and the entity that transferred the net assets or equity interests (the transferring entity) may account for similar assets and liabilities using different accounting methods. In such circumstances, the carrying amounts of the assets and liabilities transferred may be adjusted to the basis of accounting used by the receiving entity if the change would be preferable. Any such change in accounting method should be applied retrospectively, and financial statements presented for prior periods should be adjusted unless it is impracticable to do so. Section 250-10-45 provides guidance if retrospective application is impracticable.
If the receiving entity’s method is not preferable, the receiving entity may account for the transferred assets and liabilities under the transferring entity’s existing accounting method. Alternatively, if either the transferring entity or receiving entity were to change its accounting policy, it must be preferable.
7.1.4 Accounting by the transferring entity (common control)
This section provides guidance on the accounting and reporting of the entity that contributes net assets or equity interests to an entity that is under common control.
ASC 805-50-05-5 indicates that certain common control transactions are changes in the reporting entity and provides accounting guidance for the entity that receives the net assets. However, ASC 805 is silent regarding the accounting by the entity that contributes the net assets or equity interests.
In situations where the contribution or sale transaction is to one of the transferring entity’s wholly owned subsidiaries, the consolidated financial statements of the transferring entity will not be affected, except in certain cases for tax effects associated with an intra-entity sale or transfer of subsidiary stock. Otherwise, any differences between the proceeds received and the book value of the disposal group would be eliminated in consolidation, and no gain or loss would be recognized. In contrast, the financial statements of the transferring entity will be impacted by a contribution or sale to another party under common control that is not a subsidiary of the transferring entity (e.g., a fellow subsidiary under a common parent). A transfer of long-lived assets between entities under common control would generally be accounted for at carrying value prospectively. Any difference between the proceeds received by the transferring entity and the book value of the assets would be recognized as an equity transaction. For those transactions that constitute a transfer of net assets (e.g., a business), two methods of accounting by the transferring entity have developed in practice. Regardless of the method used, the consolidated financial statements of the common parent will not be affected.
In the first method, similar financial reporting for the receiving entity is applied to the transferring entity. This method is often referred to as a “de-pooling.” In a de-pooling, the assets, liabilities, and related operations of the transferred business are retrospectively removed from the financial statements of the transferring entity at their historical carrying values.
Under the second approach, the transferring entity reports the transfer as a disposal pursuant to ASC 360-10. The guidance in ASC 360-10-45-15 indicates that the disposal group of long-lived assets that are to be disposed of other than by sale should continue to be classified as held and used until the disposal date. Specifically, ASC 360-10-40-4 states that if a long-lived asset is to be disposed of in an exchange or a distribution to owners in a spin-off, and if that exchange or distribution is to be accounted for based on the recorded amount of the nonmonetary asset relinquished, the asset should continue to be accounted for as held and used until it is exchanged or distributed. Any difference between the proceeds received by the transferring entity and the book value of the disposal group (after impairment included in earnings, if any) would be recognized as a capital transaction and no gain or loss would be recorded.
If the disposal group qualifies as a component of the transferring entity, it should be assessed for discontinued operations reporting on the disposal date. For more information on the criteria for reporting discontinued operations, refer to FSP 27.
The SEC staff has issued Staff Accounting Bulletin (SAB) Topic 5-Z.7, Miscellaneous Accounting, Accounting and Disclosure Regarding Discontinued Operations, Accounting for the Spin-off of a Subsidiary (codified in ASC 505-60-S99-1), which addresses accounting for the spin-off of a subsidiary. While this topic is not written in the context of a change in reporting entity that results from a common control transaction, entities should consider this guidance in determining the appropriate accounting by the transferring entity in a common control transaction. The topic provides a number of stringent criteria, all of which must be met to “de-pool” a transferred business retroactively from its historical financial reporting periods. The SEC staff often challenges a company’s assertion that all the requirements of the SAB topic have been met. Therefore, the transferring entity will more frequently reflect the contribution as a disposal under ASC 360-10. Although this guidance is specific to public companies, we believe the underlying concepts are applicable to private companies as well.
Example BCG 7-12 illustrates the accounting for a common control transfer in the transferring entity’s separate financial statements.
EXAMPLE BCG 7-12
Subsidiary sells its wholly owned subsidiary to a sister subsidiary that is owned by the same parent
Subsidiary sells its wholly owned subsidiary to a sister subsidiary that is owned by the same parent
Company A and Company B are controlled by the same corporate parent, Parent Company P. Company A is required to prepare separate financial statements for statutory reporting purposes. Company A sells one of its wholly owned subsidiaries, Company C, to Company B for $115 million in cash, which is determined to be its fair value. Company C meets the definition of a business. The book value of Company C is $130 million. There is no basis difference between Company A’s carrying value of its investment in Company C and the underlying equity of Company C. Further, there is no basis difference between Parent Company P’s carrying value of its investment in Company A and the underlying equity of Company A.
How should Company A record the transaction?
Analysis
The transaction represents a transfer of net assets between entities under common control. Company A would continue to account for the assets of Company C as held and used until Company C is distributed to Company B. On the date of the distribution to Company B, Company A should consider recognizing an impairment loss of $15 million based on the difference between the fair value and the book value of Company C. Any difference between the proceeds received by Company A and the book value of Company C (after impairment, if any) would be recognized as an equity transaction and no gain or loss would be recorded. Additionally, since Company C qualifies as a component of Company A, it should be assessed for discontinued operations reporting on the date of the distribution.
7.1.4.1 Allocation of contributed entity goodwill (common control)
In certain circumstances, the transferred entity may constitute a business and comprise a portion of a larger reporting unit at the parent-company level. In addition, the parent company may not have previously pushed down goodwill related to the contributed entity for stand-alone reporting purposes. In the transferring entity’s separate financial statements, the transferring entity needs to determine the appropriate method to allocate goodwill to the disposal group based on the specific facts and circumstances.
The transferring entity would generally apply the guidance prescribed in ASC 350-20-40-1 through ASC 350-20-40-3. That guidance requires that goodwill of the reporting unit be allocated to the transferred entity based on the relative fair values of the retained portion of the reporting unit and the transferred entity on the date of the transfer.
Alternatively, in the limited circumstances described in ASC 350-20-40-4 through ASC 350-20-40-6, the transferring entity would apply the historical cost approach described in ASC 350-20-40-4 in its separate financial statements. Under this approach, the transferring entity would allocate to the transferred entity the specifically identified original goodwill value of that business from the original acquisition that generated such goodwill.
See BCG 9.10 for additional information on factors to consider when determining the level of integration of an acquired business and any related goodwill into a reporting unit after its acquisition.
Under either method, the transferring entity is required to subsequently test the remaining goodwill for impairment in accordance with ASC 350. Additionally, regardless of the allocation method, the receiving entity will record goodwill based on the parent’s historical cost in the contributed entity in accordance with paragraph ASC 805-50-30-5. As a result, there may not be symmetry between the goodwill allocated to the transferred entity by the transferring entity and the goodwill recorded by the receiving entity.
7.1.4.2 Transfers to owners (common control)
Under ASC 845-10-20, a nonreciprocal transfer is a transfer of assets or services in one direction, either from an entity to its owners or to another entity, or from owners or another entity to the entity. A transfer of assets to owners of an entity could be in the form of a pro rata spinoff (see PPE 6.3.2) or a non-pro rata split-off (see PPE 6.3.3).
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
Link copied
