 In this presentation, we will take a look at Business Combination Accounting Methods, both historic methods and the current methods. Get ready to act because it's time to account with advanced financial accounting. We're going to start off with business combinations from the past. These are not the current method that we're going to be using. However, it's good to have some historical context so that if you hear these methods, you know what you're talking about. We also want to think about these concepts in terms of just a logistical standpoint. In order to make these laws, then how would you do it? What are some of the challenges that have happened? And by looking through the historical process, you can kind of think about, okay, these are what we're put in place. I see why those were put in place here, the changes that are happening. We can see why the changes are happening and therefore have a better understanding of what we are doing and how the current process is being put in place and why the decisions were made to put it in place. In the past, we had combinations methods that included the purchase method and the pooling of interest method. Then what happened is the pooling of interest method was taken away by FASB. FASB said, hey, we're not going to allow anymore the pooling of interest method. Then the purchase method has been replaced with the acquisition method. If you hear the purchase method, that in essence is what we're currently doing. However, we changed the name from the purchase method to the acquisition method. So in the past, we had the purchase method, we had the pooling of interest method. Pooling of interest method has been removed. Then the purchase method has basically been changed or renamed and modified to the acquisition method. Therefore, what are we talking about now when we have the business combinations, which generally we're talking about the external expansion of the business, businesses expanding can do that internally or externally. We're typically talking about an external expansion and we're going to be using then the acquisition method for the business combinations related to it. So let's talk about the pooling of interest method really quick. This is going to be the old method, the old method that has been removed now. We can no longer use the pooling of interest method. So that's going to be the combining of the book values of companies. No revaluation to the fair market value under this method. So basically, if you're considering two separate legal entities and you're thinking about, if you're thinking about, okay, how am I going to do this? We got these two separate legal entities that we need to kind of merge in some way, shape or form. How can we do that? Well, one way to think about it is, well, we got, we're just going to take whatever the book values are and in essence, merge them together. And that would be basically the pooling of interest method. Now, one kind of issue with that note that you might have some things on the books like property, plant and equipment, for example, which we put on the books and historic value and then depreciate it. And usually, if there's a sale or something like that, if there's a sale that takes place with, say, the fixed assets, then usually you're going to recognize a gain or loss at that point in time that the sale took place. So if you're talking about the pooling of interest method, then if you're just using the book value, then you're not really putting the items to the fair market value. And if you consider the merger or the combination that is happening as kind of like a negotiation, which it is to a sense, there's a negotiation, there's some kind of sale taking place, then you would think if there's a sale taking place, if assets are basically being bought and sold at this point, there should be a triggering of a sales type of transaction and any gain or losses on these items that are currently at the book value should be revalued and you should have to recognize basically any gains or losses at that point in time. Also, there's kind of a push to go from an item where you're on a cost basis or book value basis to more of a fair market value basis, especially in the global accounting, so to try to conform basically with international accounting policies. There's often this push to move more towards a fair market value type of accounting method, which would be basically revaluing your assets and liabilities to reflect current prices as best as possible. There's pros and cons to that, we won't get into the pros and cons in that, but if we eliminate the pooling method and we look at the acquisition method, it kind of aligns with that type of movement, so there's been a move away from the pooling method. Now, note from a managerial standpoint, the pooling method oftentimes might be a good thing, but the people that are involved in the actual merger, the people that are merging the company, may be looking for the pooling method because there wouldn't be a revaluation at that point in time. It wouldn't trigger all the things that could be triggered with the idea of this being like a purchase kind of transaction, which would result possibly in the recognition of gains and losses with regards to the revaluation of the entity's information. Also, we have to, of course, revalue it, which probably would have been taking place if you're doing some type of combination. They probably revalued all the assets to come up with whatever the terms are of the agreement, but now you're going to have to put that into the accounting in some way, and instead of just pooling the information together on a book value method, if we eliminate the book value, the pooling method, then you're going to have to revalue the assets and that could be kind of a cumbersome situation. How do you do that with regards to some type of assets which are going to be more difficult? You have to take appraisals and things like that to get an accurate value, and, of course, that's going to be estimates in some way, shape, or form depending on the type of property. If we were to use the pooling of interest method, there would be no good will as a result of using that method. So we'll talk more about what good will is, but the concept of good will is when you think about good will, you're basically thinking, hey, there's something in this company of value above and beyond what's reflected on the balance sheet. So in other words, if you take a look at the assets minus the liabilities, that's going to give you the net assets or the equity section, and that's going to be the value that would be, in essence, the book value of the organization. If you were to have a purchase situation and the book value was exactly the same value as the market value, then when there was a purchase, you would think that the purchase price would be directly for the equity value of the organization, the net assets, the assets minus the liabilities. However, that's almost never the case, and usually there's going to be a payment oftentimes for more than the assets minus the liabilities. There's some kind of purchase beyond that. What is that? We don't really, we're going to call it good will, and that good will is basically you can think of it as future earning potential. You can think of it as a brand name investment, the name of the organization results in profits that are above and beyond basically the market standards, above and beyond just the assets minus the liabilities. So how would you get good will on the books? Well, you can't really do it internally. You don't really report good will on the books. If you're growing, you don't just say, I'm going to report good will. It typically happens as a result of some type of purchase arrangement, in which case the purchase price is greater than in essence the book value. So in essence, you're saying assets minus liabilities, equity section, net assets. The purchase price is greater than the net assets. Well, if you were then to use not the pooling method, but some type of acquisition method, you're going to have to account for that in some way. Why did someone pay more on a market basis than the assets minus liabilities? Why would somebody pay more than what you would perceive the value of the organization to be? Well, given it's an arm length transaction, given it's a market transaction, and we trust the market to determine prices, we've got to assume then that there's some type of value that's intangible that's above and beyond the assets minus the liability that the market is willing to pay for, and that intangible asset would be good will. Now, the good will being reported is something that we wouldn't have to be dealing with with the pooling method because even though there might be certainly good will in the transaction, you would just be combining the book value and due to the fact of not having to adjust the fair market value, you wouldn't be dealing with the good will. And of course, that's another reason that the regulations now don't like the pooling method because again, they want to say, hey, look, there's a market transaction happening here. There's some kind of purchase happening. That's an opportunity for us to get a valid assessment about the value of this company. There's a transaction, there's an arm length transaction, there's a market transaction. We would like then to revalue the organization at that point in time and basically have the reflecting value reflect that transaction that has taken place. So those are some of the pros and cons why the method of the pooling method has been removed. What do we have left then? We've got the acquisition method. So that's what's going to be put in place. In other words, like we say that if you look at it from an ACI, like a regulatory type of standpoint, the reason they like the acquisition method is because again, there is a transaction in essence. This is kind of like a purchase and sale taking place. You're pooling together, but you could think of it basically as a purchase that's happening. There's usually in other words a dominant kind of corporation and a corporation that's being purchased in that case. In that case, you can think of it kind of a sales transaction. There's a negotiation that's happening. That's a market activity. And that means that that market activity, we would like to have it drive what we think the value of the organization is because the market valuation is our best tool to value the organization. So at the point in time that there's this market arm's length transaction, it would be a good time to revalue the organization. So note again, from a regulatory standpoint, they're typically going to want that because you get that transparency, as we can see here, the acquisition method because you would think you get that transparency of the transaction. From a managerial standpoint, oftentimes the manager likes the book method, right? Because then you don't have to deal with the revaluation and you don't have to deal possibly with the, from a tax standpoint, you can consider the fact that if there's goodwill being paid for, then there could be gains and losses or gains typically that could be recognized and you could be tax effects on this and so that could all result in more regulatory burden as well as a tax burden. So from a managerial perspective, you like, you probably, pulling method probably was preferred from a transparency standpoint, taking taxes aside because taxes distort everything. If you take taxes aside, obviously from a regulation and a transparency standpoint, the acquisition method has a lot of virtues and good values for it. So the acquisition method, values are based on fair value of the consideration given and the fair value of any non-controlling interest that is not acquired. So when you think about the acquisition method, you're basically thinking, hey, there's a transaction happening here and usually you can figure out what the value is by the amount of consideration given, meaning how much money was paid for it and it may not be money, there might have been other things of consideration, stocks, bonds, other types of property, anything could be given in consideration, but that is easier to value. The things that are given in consideration oftentimes are easier to value so you can then look at what the consideration that was given and then consider the price. Now, it could be a little bit more confusing conceptually if there's a purchase not of 100% say of the stock of another company, they didn't purchase 100%. So then if there wasn't 100% purchase, then you have this issue of a non-controlling interest. So we'd still have to value, in essence, the non-controlling interest as well. That's going to be something that complicates matters a little bit more. So it's not like the acquisition method is an easy method, which one is easier? You could have pros and cons on a pooling versus the acquisition method, which is easier. The pooling method was probably easier because you just took the book value, you didn't have to reappraise everything or anything like that. The acquisition method you're going to have to do, of course, the appraisals to get it in place. But generally, you're thinking that the purchase, the price that you paid for it, if it was just cash, it would be something easy to value. But if it's cash and stock, then you've got to value the stock. If it's publicly traded stock, then maybe it's not too difficult because you can look at what it's trading for at a given point in time to value the stock. And if it's property that's being paid, then you've got to value possibly take appraisals on the property. So we'll talk more about that in future presentations. At this point in time, just note, acquisition method, that's the current method.