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Some of the considerations that may be needed to be applied when preparing the liability portion of the balance sheet for the carve-out entity are discussed in CO 4.3.1 through CO 4.3.5. In making the determination of which liabilities to include, reporting entities should consider:
  • the extent to which the liability was created by the carve-outs operations,
  • whether or not the liability will be transferred in the transaction, and
  • which entity has the legal obligation (liability).

4.3.1 Accounts payable and accrued expenses

Accounts payable are attributed to the carve-out financial statements when the accounts payable balance relates to an underlying expenditure associated with the historical operations of the carve-out business.
Accounts payable are often subject to centralized processing or are commingled with payables related to other affiliated entities. Therefore, it may be challenging to separate the underlying accounts payable balances to identify those attributable to the carve-out business. In such situations, management may utilize attributes of the accounts payable to determine whether they are related to the carve-out business. For example, inventory-related purchases may be separated from other accounts payable balances and management may determine if they relate to the historical operations of the carve-out business based on the materials included on the invoice. In cases when the type of inventory relates both to the carve-out business and an affiliated entity, management may need to further analyze the purchases based on additional factors, such as the location where the materials were shipped.

4.3.2 Contingent liabilities

Contingent liabilities may arise due to litigation or environmental matters. Though the contingent liabilities and related expenses may be specific to certain entities, they are often recorded at the parent level. As such, it is important for management to assess each contingency to determine if it is appropriate to attribute the liability to the carve-out business.
Factors in this analysis are (1) whether the contingency directly relates to the historical operations of the carve-out business and (2) whether the carve-out business is the primary obligor or an indemnification exists between the carve-out business and parent entity.
In some cases, it may be difficult to determine whether the contingency relates to the carve-out business. For example, it may be difficult to determine attribution of a liability when claims resulted from injuries caused by a product defect and the product was sold by both the parent and the carve-out business. Determining the extent of liability between the parent and the carve-out business from years of product sales may involve significant judgment. If the parent entity is expected to settle the obligation (i.e., is the primary obligor), management would likely conclude that the related liability is not attributed to the carve-out financial statements.
Alternatively, if the carve-out business contractually agreed to indemnify the parent entity, an indemnification liability would be reflected in the carve-out financial statements. Regardless of whether the liability is attributed to the carve-out financial statements, a reasonable portion of the related expense would be allocated to the carve-out financial statements as the carve-out business sold the products.
Additionally, the parent entity may indemnify the carve-out business for contingencies as part of the divestiture. If the exposure is directly attributable to the carve-out business’ historical operations, the carve-out business would generally recognize a liability and expense in the carve-out financial statements, even though it is indemnified by the parent entity. Separately, the carve-out business would recognize a receivable (and an equity contribution from the parent) for the indemnity provided by the parent entity for periods in which the indemnity is in place.
Contingencies related to the carve-out business that are either (1) reasonably possible or (2) probable but not estimable require disclosure in the carve-out financial statements.

4.3.3 Contract liabilities (i.e., deferred revenue)

Contract liabilities (i.e., deferred revenue) are attributed to the carve-out financial statements when the carve-out business has a performance obligation to transfer goods or services to a customer and consideration has been received from the customer. The contract liability is recorded regardless of whether the cash received in advance of transferring the goods or services has been recorded in the carve-out financial statements.

4.3.4 Debt

Third-party debt issued by the carve-out business would be reflected in the carve-out financial statements. Any transaction costs and interest associated with the debt should also be reflected. Generally, the debt of the parent entity is not reflected in the carve-out financial statements based on an analogy to ASC 805-50-30-12.

ASC 805-50-30-12

An acquiree shall recognize in its separate financial statements any acquisition-related liability incurred by the acquirer only if the liability represents an obligation of the acquiree in accordance with other applicable Topics.

Debt may need to be reflected in the carve-out financial statements when the carve-out entity is jointly and severally liable or guarantees the debt. If the carve-out entity guarantees the debt, the guarantee should be recorded in accordance with ASC 460, Guarantees. See FG 2.6 for recognition and measurement of guarantees.
If the carve-out entity is jointly and severally liable with the parent, a reporting entity should consider the guidance in ASC 405-40-30-1, Obligations Resulting from Joint and Several Liability Arrangements, which states the following:

ASC 405-40-30-1

Obligations resulting from joint and several liability arrangements included in the scope of this Subtopic initially shall be measured as the sum of the following:

  1. The amount the reporting entity agreed to pay on the basis of its arrangement among its co-obligors.
  2. Any additional amount the reporting entity expects to pay on behalf of its co-obligors. If some amount within a range of the additional amount the reporting entity expects to pay is a better estimate than any other amount within the range, that amount shall be the additional amount included in the measurement of the obligation. If no amount within the range is a better estimate than any other amount, then the minimum amount in the range shall be the additional amount included in the measurement of the obligation.

As indicated in paragraph BC10 in the Basis for Conclusions of ASU 2013-04, Liabilities (Topic 405), Obligations Resulting from Joint and Several Liability Arrangements for Which the Total Amount of the Obligation is Fixed at the Reporting Date, the Task Force rejected the notion that a reporting entity would measure the obligation for which it is jointly and severally liable with the primary borrower as the total amount of the obligation. Rather, it should determine whether an agreement exists among its co-obligors which details the amount the reporting entity agreed to pay and record that amount (if such arrangement exists) and the reporting entity’s best estimate of the amount it expects to pay on behalf of its co-obligors. Refer to FG 2.9 for further guidance on accounting for joint and several obligations.

4.3.5 Pensions

If the carve-out entity is the sponsor of a pension plan, the accounting would follow ASC 715, Compensation–Retirement Benefits, and the plan assets and liabilities would be reflected in the carve-out balance sheet.
ASC 715-30-55-63 through ASC 715-30-55-64 indicate that the separate financial statements of a subsidiary that participates in the parent’s pension plan should reflect pension expense on a multiemployer basis. However, oftentimes carve-out financial statements are not comprised of legal subsidiaries but rather include divisions or businesses. Since carve-out financial statements may not technically be separate financial statements of a subsidiary, there is diversity in practice for the accounting for pensions in carve-out financial reporting.
The multiemployer guidance differs significantly from the "single employer" accounting guidance in ASC 715. Under multiemployer accounting, the carve-out business would only recognize a liability to the extent that the required contribution had not been paid at the end of the period. The assets of the plan would not be recorded in the carve-out financial statements.
Alternatively, an entity could choose to prepare the carve-out statements using a multiple-employer approach, essentially resulting in a single employer basis of accounting in the carve-out statements. Under this approach, reasonable allocations of the projected benefit obligation and plan assets of the parent plan would need to be made in order to reflect the carve-out entity's share as if it were the plan sponsor. However, use of the multiple-employer approach is not common in practice.
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