Purchase Price Allocation (PPA)

When one company acquires another, accounting standards under IFRS and US GAAP require the buyer to record the target's assets and liabilities at their fair values on the acquisition date, not at their old book values.

This includes intangible assets that may not have appeared on the target's balance sheet, such as customer relationships, brands, technology and patents. Any excess of the purchase price over the net fair value of identifiable assets and liabilities is recorded as goodwill.

For example, a company pays 500,000,000 for a business whose identifiable assets and liabilities have a net fair value of 350,000,000, including newly recognised intangible assets. The remaining 150,000,000 is recorded as goodwill.

Purchase price allocation affects future profits. Intangible assets with limited lives are amortized, reducing reported earnings, while goodwill is not amortized but tested for impairment. Higher values for inventory and fixed assets also increase future costs. Specialist valuation firms are often hired to estimate fair values.