Purchase Price Allocation (PPA): A Complete Guide for M&A and Financial Reporting

We’ve seen too many acquirers treat Purchase Price Allocation as paperwork. It’s not. It’s the moment of truth where you find out what you actually bought, and whether the price you paid makes any sense.

In M&A transactions, PPA is where the real work begins. You’re required under IFRS 3 and ASC 805 to distribute your purchase price across every acquired asset and liability at fair value. And the market right now? It’s heating up. Get it wrong, and companies face audit complications, goodwill impairment charges that tank their stock price, and financial statements that completely misrepresent what they own.

What is the Purchase Price Allocation?

Purchase Price Allocation (PPA) is a practice in acquisition accounting in which an acquirer divides the purchase price across the assets and liabilities of the target company acquired in the transaction.

PPA is required by current accounting rules, such as the International Financial Reporting Standards (IFRS), for any sort of business combination deal, including mergers and acquisitions. It’s worth noting that in the past, purchase price allocation was only required in takeover negotiations.

Why PPA Matters in M&A?

Purchase Price Allocation (PPA) is one of the most critical yet often underestimated aspects of mergers and acquisitions. Here’s why it carries such significant weight:

Financial Reporting Impact

PPA determines how the purchase price gets distributed across acquired assets and liabilities on the balance sheet. This allocation directly affects Goodwill recognition, amortization expenses, and future earnings.

Valuation of Intangibles

Many M&A transactions involve significant intangible assets like customer relationships, technology, brands, or trade names. PPA forces acquirers to:

• Identify and separately value these often-hidden assets.
• Apply rigorous valuation methodologies.
• Support fair value conclusions with defensible assumptions.

Tax Implications

In taxable transactions, how you allocate the purchase price determines your tax basis in the acquired assets and, therefore, what you can deduct going forward. Some assets give you immediate tax benefits, while others don’t give you anything. The difference can translate into real cash flow impacts on your after-tax returns from the deal. Smart acquirers view PPA not just as an accounting exercise but also as a tax-planning opportunity.

Deal Valuation and Returns

You went into the transaction with assumptions about what you were buying and why it was worth the price. The PPA process tests those assumptions. When you’re forced to identify and value the specific assets, you get a clear picture of whether you paid for genuine economic value or whether too much ended up as goodwill. It’s a reality check on your acquisition thesis and an early indicator of whether you’ll hit your projected returns.

Regulatory Compliance

If you’re a public company, you don’t get to skip this or phone it in. The accounting standards require a thorough, defensible PPA within a measurement period, and your auditors will be all over it. A well-executed PPA actually gives you strategic insights. It tells you where the value really sits in what you’ve acquired, which can inform how you prioritize integration efforts and where you invest resources going forward.

Main Components of Purchase Price Allocation

There are three components in purchase price allocation, which allows them to identify the basic valuation process and determine the net worth.

• Net identifiable assets – The whole worth of an acquired company’s assets less the total amount of its liabilities is referred to as “net identifiable assets”. It’s worth noting that “identifiable assets” are assets that have a specific value at a given time and whose benefits can be identified and adequately defined. Essentially, net identifiable assets are the book value of assets on the acquired company’s balance sheet. It’s vital to remember that identifiable assets can be both tangible and intangible.
• Write up – If an asset’s carrying value is less than its fair market value, a write-up is an adjusting increase to the asset’s book value. When an independent business valuation specialist completes an assessment of the fair market value of a target company’s assets, the write-up amount is established.
• Goodwill – The amount paid in excess of the target company’s net asset value minus its liabilities is referred to as goodwill. Goodwill is calculated to take the acquisition rate of an organization and subtract the distinction among the honest marketplace fee of the property and liabilities. Companies are required to re-evaluate every recorded goodwill annually and record impairment adjustments if necessary. This is due to goodwill not depreciating but sometimes amortized over time.

Purchase price allocation example

Atlas Incorporated acquired Bashirian LLC for $12 billion. After the acquisition, Atlas Incorporated must perform purchase price allocation according to existing accounting principles.

The book value of Bashirian LLC’s assets is $9 billion, while the book value of the firm’s liabilities is $6 billion. Hence, the value of the net identifiable assets of Bashirian LLC is $3 billion. This is found by deducting the liabilities from the assets ($9 billion-$6 billion).

After getting a valuation done by an independent business valuation specialist, the fair value of both assets and liabilities of Bashirian LLC was determined to be $10 billion. In order to adjust the book value of the company’s assets to its fair market value, Atlas Incorporated must recognize a $7 billion write up ($10 billion – $3 billion). Atlas Inc. will also need to record a Goodwill of $2 billion since it acquired Bashirian LLC for $12 billion and its fair market value is $10 billion.

Importance of getting a PPA valuation

Under the International Financing Reporting Standards (IFRS), a PPA is required whenever there are any business combination deals (e.g. mergers and acquisitions). If the PPA was not done correctly, it could lead to problems for the acquirer.

Measuring fair values at the acquisition date ensures that assets and liabilities reflect their true economic worth.

As per the Accounting Standards Codification (ASC) 805, the acquirer’s auditor has to review the valuations. If this is not done well, the auditor will have the acquirer and appraiser answer many questions, which takes time and costs money.

PPA Steps in M&A Practice

In order to determine the purchase price allocation valuation, there are several steps that needs to be taken:

Step 1 – Determine the fair value of the consideration paid

Cash, shares, promissory notes, contingent payments, earnouts, and other kinds of payment can all be used as consideration in a business combination. The consideration must be recorded at its acquisition-date fair value, regardless of its form or time. Include cash, equity issued, fair value of contingent consideration (earn‑outs), assumed debt that is part of consideration, and any previously held equity interests remeasured at fair value.

Step 2 – Revalue all existing assets and liabilities to their acquisition-date fair values

Existing assets and liabilities acquired in a business combination must be recognized at fair value on the purchase date, as required by IFRS 3 and ASPE 1582. 

• Tangible: cash, working capital items, PP&E, right‑of‑use assets, inventory, deferred tax assets/liabilities, etc.
• Intangible: customer relationships, technology/IP, trademarks, non‑compete agreements, order backlog, data, and in-process R&D, if they meet separability or contractual-legal criteria.​

Step 3 – Measure at Fair Value

An examination of the acquirer’s acquisition methodology is usually the first step in preparing a PPA. The acquisition’s Internal Rate of Return (IRR) is then calculated by finding the rate that corresponds to the net present value of the acquired business’s after-tax forecast cash flows to the purchase price. The next stage is to value the identifiable intangible assets after the acquired intangible assets have been identified and computed the purchase IRR.

For evaluating intangible assets, there are three widely accepted methods are Asset approach, Market approach and Income approach

Step 4 – Allocate and Compute Goodwill

Goodwill is allocated to any consideration that is not allocated to the fair value of the assets (including identified intangible assets) and liabilities. A study of the Weighted Average Return on Assets can be used to determine the appropriateness of the overall result and the amount of goodwill (WARA).

Step 5 – Record entries and disclosures

Update the consolidated opening balance sheet of the acquirer as of the acquisition date with FV adjustments and goodwill.​Provide extensive note disclosures: key assumptions, major classes of assets, contingent consideration, and the impact on revenue and profit had the acquisition occurred at the start of the period.

Get Eqvista to help with your PPA valuation!

The PPA market is growing despite challenges such as price volatility and regulatory uncertainties. The increasing number of agreements and the shift towards flexible energy indicate a changing landscape for corporate renewable energy procurement.

Determining PPA valuation requires careful assessment of all components involved in an acquisition, ensuring compliance with accounting standards while providing valuable insights into the transaction’s financial implications.

Eqvista offers specialized services to assist with Purchase Price Allocation valuations, which is essential for companies undergoing mergers and acquisitions. By leveraging their technology and expertise, Eqvista streamlines the valuation process, saving time and reducing business complexity. For more information, contact us now!