ASC 805-10-55-25: The Asset Acquisition Screen Test

When one company acquires a set of assets from another, a primary accounting question arises: is this a purchase of specific assets or the acquisition of an entire business? The Financial Accounting Standards Board’s (FASB) Accounting Standards Codification (ASC) 805, Business Combinations, outlines the necessary analysis. Determining whether a transaction is a business combination or an asset acquisition is a key first step, as the accounting treatment for each differs. To simplify this judgment, the ASC provides a specific “screen test” that serves as an initial, efficient assessment to quickly classify many transactions.

The Initial Screen Test for Asset Acquisitions

The screen test provides a direct path to classifying an acquisition. If substantially all of the fair value of the gross assets acquired is concentrated in a single identifiable asset or a group of similar identifiable assets, the transaction is treated as an asset acquisition. The term “substantially all” is interpreted in practice as a threshold of 90% or more.

To apply the test, a company must first calculate the value of the “gross assets acquired.” This calculation includes the consideration transferred, such as cash paid or stock issued, plus any liabilities the acquirer assumes from the seller. This calculation specifically excludes any cash, cash equivalents, or deferred tax assets acquired in the transaction.

The numerator for the test’s ratio is the fair value of the single or group of similar identifiable assets. If this value divided by the gross assets acquired meets the “substantially all” threshold, the transaction is an asset acquisition. For example, if a company pays $10 million for a portfolio of assets whose gross value is calculated at $10.5 million, and a single patent within that portfolio is valued at $9.8 million, the test is met ($9.8M / $10.5M = 93%).

Defining Key Terms for the Screen Test

A “single identifiable asset” is an asset that can be recognized and measured on its own, such as a manufacturing facility, a patent, a customer contract, or an in-process research and development (IPR&D) project. The guidance also clarifies that certain complementary assets, like a brand and its associated trademarks with similar useful lives, can be considered a single asset for this test.

The concept of a “group of similar identifiable assets” requires more judgment. For assets to be grouped, they must be of a similar nature and possess similar risk characteristics, meaning they are expected to behave similarly in response to economic and other events. A clear example of a qualifying group would be a portfolio of residential mortgage loans of the same type, with similar interest rates and borrower credit profiles.

Conversely, assets that are not similar cannot be grouped for the screen test. A building and the land it sits on are considered two distinct assets because their nature and risk characteristics differ; land is non-depreciable while a building is. Likewise, acquiring a pharmaceutical company’s drug patent and its manufacturing plant would not constitute a group of similar assets.

Accounting for an Asset Acquisition

When a transaction is classified as an asset acquisition, the accounting treatment follows a cost accumulation model. The total cost of the acquisition is allocated to the individual assets acquired based on their relative fair values.

A distinction from business combination accounting lies in the treatment of transaction costs. In an asset acquisition, direct costs related to the transaction, such as legal fees or advisory commissions, are capitalized. This means they are added to the total cost of the acquisition and allocated to the acquired assets, which contrasts with business combination accounting where such costs are expensed as incurred.

Another feature of an asset acquisition is that no goodwill is recognized. Goodwill represents the premium paid over the fair value of the identifiable net assets in a business combination. In an asset acquisition, if the purchase price exceeds the fair value of the identifiable assets, that excess cost is allocated across the acquired assets, increasing their recorded value.

The Framework Assessment if the Screen Fails

If the initial screen test is not met, the acquirer must proceed to a more detailed evaluation using the framework outlined in ASC 805. This framework requires the acquirer to assess whether the acquired set contains both an “input” and a “substantive process.”

An input is any economic resource that creates, or has the ability to create, outputs when one or more processes are applied to it, such as long-lived assets, intellectual property, or employees. A process is any system, standard, or protocol that when applied to an input, creates or has the ability to create outputs.

For a transaction to be a business combination, the acquired process must be “substantive,” meaning it is critical to the ability to continue producing outputs. The presence of an acquired workforce is a strong indicator of a substantive process. If the acquired set has both an input and a substantive process that together significantly contribute to the ability to create output, it meets the definition of a business and must be accounted for as a business combination.