FAS 164 | NFP Audit and Accounting

In June I had the opportunity to attend the AICPA Not-for-profit conference in Washington, DC. One of the sections which stood out to me was a class on not-for-profit merger and acquisition accounting presented by Martha Garner. The class was a good recap of FAS 164 (now ASC Topic 958, Subtopic 805).

Under FAS 164 there are two ways not-for-profit organizations can combine: by merger or by acquisition. Mergers are now unique to not-for-profits as they were previously eliminated for for-profit entities. However, FASB did recognize that there are times, in the not-for-profit world, that a pure acquisition treatment of a not-for-profit combination would be inappropriate and lead to an arbitrary designation of a “purchasing” organization.

Mergers have perhaps the simplest accounting: simply combine the carrying basis of the two organizations’ balance sheets at the merger date. However to qualify for this old pooling of interests method, the combination must not be an acquisition. This means that negotiations are not dominated by one of the merging parties; the combining entities cease to exist and a new entity is created; neither one of the merging entities dominates management; and new bylaws are created.

In many cases there will be a clear dominate party, or one of the merging parties will continue to exist as the new organization. In these circumstances acquisition accounting is appropriate even when no consideration is paid. Under acquisition accounting an acquiring party is identified. The acquiring party takes an inventory of all assets acquired and liabilities assumed from the acquired entity. It is important to note that this may include some previously unrecorded items such as the acquired organization’s intangible assets (assuming they have ongoing value to the purchasing entity).

When following purchase accounting there is a formula to follow which will guide the accounting. This formula is as follows:

Fair value of assets acquired less fair value of liabilities assumed less any consideration paid.

If this formula produces a positive number this amount should be recorded as compensation income by the acquiring entity. This is fairly straight forward.

However, if the formula produces a negative result this amount is recorded either as contribution expense, or as goodwill. This decision is driven by the type of organization. If the organization is predominately contribution supported, contribution expense should be recorded. If the organization is not predominately contribution supported the difference is recorded as goodwill.

This might sound a little complicated, but it actually makes some sense. Essentially the FASB is saying that some not-for-profits operate more like businesses than others. If a not-for-profit is operating as a business (microfinance institutions, Hospitals, etc) the readers of its financial statements would likely understand the concept of goodwill and benefit from seeing goodwill in the organization’s reporting. If an organization is acting as a business, and acquires another organization paying more (in either consideration or liabilities assumed) than the fair value of the acquired organization’s assets, there must be a value to the entity beyond just its assets, this would be goodwill.

On the other hand, if a not-for-profit is supported by donors, it is mission driven and not business driven. In this case it makes sense to balance the acquisition entry to contribution expense, because the acquisition must further the mission of the acquiring organization. For example a community group may “acquire” a smaller mentoring organization which is failing financially. This would be done because the community group believes the activities of the mentoring organization further its mission to serve the community.

There is much more covered by FAS 164 including appropriate disclosures and more detailed guidance on the topics above. I strongly advise you dig deeper if you are looking to apply the guidance to a specific transaction.