Bargain purchase in an acquisition
/What is the Accounting for a Bargain Purchase?
When an acquirer gains control of an acquiree whose fair value is greater than the consideration paid for it, the acquirer has completed a bargain purchase. A bargain purchase transaction most commonly arises when a business must be sold due to a liquidity crisis, where the short-term nature of the sale tends to result in a less-than-optimum sale price from the perspective of the owners of the acquiree.
How to Account for a Bargain Purchase
For the acquirer to account for a bargain purchase, follow these steps:
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Record all assets and liabilities at their fair values.
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Reassess whether all assets and liabilities have been recorded.
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Determine and record the fair value of any contingent consideration to be paid to the owners of the acquiree.
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Record any remaining difference between these fair values and the consideration paid as a gain in earnings. Record this gain as of the acquisition date.
Related AccountingTools Courses
Business Combinations and Consolidations
CPA Firm Mergers and Acquisitions
Example of a Bargain Purchase
The owners of Failsafe Containment have to rush the sale of the business in order to obtain funds for estate taxes, and so agree to a below-market sale to Armadillo Industries for $5,000,000 in cash of a 75% interest in Failsafe. Armadillo hires a valuation firm to analyze the assets and liabilities of Failsafe, and concludes that the fair value of its net assets is $7,000,000 (of which $8,000,000 is assets and $1,000,000 is liabilities), and the fair value of the 25% of Failsafe still retained by its original owners has a fair value of $1,500,000.
Since the fair value of the net assets of Failsafe exceeds the consideration paid and the fair value of the noncontrolling interest in the company, Armadillo must recognize a gain in earnings, which is calculated as follows:
$7,000,000 Net assets - $5,000,000 Consideration - $1,500,000 Noncontrolling interest
= $500,000 Gain on bargain purchase