Accounting for the Nonmonetary Exchange of Cost-Method Investments, an Employers Assumption of Insolvent Insurance Companies' Pension Obligations and the Texas Franchise Tax

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Statement on Auditing Standards no. 69, The Meaning of "Present Fairly in Conformity With Generally Accepted Accounting Principles" in the Independent Auditor's Report, identifies the Financial Accounting Standards Board emerging issues task force (EITF) consensuses as sources of established generally accepted accounting principles.

This month's column lists 1991 and 1992 FASB EITF consensuses adopted from July 11, 1991, through May 21, 1992 (see the side bar on page 104). Summaries are provided for three of these: nonmonetary exchange of cost-method investments, an employer'ss assumption of insolvent insurance companies' pension obligations and accounting for state franchise taxes that include an income-based component.

EITF Abstracts, copyrighted by the FASB, is available in soft-cover and loose-fear versions and may be obtained by contacting the FASB order department at 401 Merritt 7, P.O. Box 5116, Norwalk, Connecticut 06856-5116. Phone: (203) 847-0700.

ISSUE NO. 91-5

EITF issue no. 91-5, Nonmonetary Exchange of Cost-Method Investments, discusses the applicability of APB Opinion no. 29, Accounting for Nonmonetary Transactions, to an investor whose cost-method investee exchanges all its stock for the stock of a public company in a business combination. A typical example: The investee is the target company in a business combination. To effect the combination, target shareholders (including the investor) exchange their shares for acquiring company shares. The combined company's shares will continue to be publicly traded after the merger.

The issue is whether the investor should record the exchange at the fair value of the stock received and recognize a gain or loss to the extent that the fair value of the stock received differs from the investor's cost basis in the shares in the target company.

The consensus did not discuss how to determine the fair value of the combined company. However, based on the guidance in paragraph 5 of FASB Statement no. 107, Disclosures about Fair Value of Financial Instruments, a logical measurement of fair value would be the quoted market price at the date of the combination times the number of shares exchanged.

The EITF reached three consensuses on this issue, which provide different accounting rules depending on the investee's role (acquiree or acquiror) in the business combination. (If the identity of the acquiror is unclear, paragraph 70 of Accounting Principles Board Opinion no. 16, Business Combinations, provides guidance.) The three consensuses are that the investor

* Records the transaction at fair value if its investee is the acquired company in the business combination.

* Continues to carry its investment at historical cost if its investee is the acquiror in the business combination.

* Also follows the guidance in the consensuses above if the investor had cost-method investments in both the acquiree and acquiror before the business combination. That is, after the combination, the investor would use fair value to account for the exchange of the investment in the acquired company and continue to carry its investment in the acquiror at historical cost. …