Page 35 - M & A Disputes

tent inconsistent with the historical company accounting policies." In this instance, historical company
policy typically takes precedence over GAAP. This fairly common situation arises when a subsidiary be-
ing sold does not issue its own financial statements or when the seller is carving out a division or unit
from an existing business. A seller that warrants that the stand-alone financial statements of a previously
unaudited subsidiary conform to GAAP takes a risk, and buyers often dispute such financial statements.
The seller may be best served with an agreement that pays specific attention to the company’s historical
accounting policies and their application or with a warranty of consistency with past practices as they re-
late to the use and application of accounting policies.

International Financial Reporting Standards

Issues may arise regarding International Financial Reporting Standards (IFRSs). The practitioner should
first look to the acquisition agreement to see how, if at all, IFRSs is addressed. The agreement will usu-
ally state the accounting principles to be used for preparation of the closing financial statements, such as
IFRSs consistently applied. If the buyer and seller employ different accounting methods, such as GAAP
and IFRSs, the practitioner may need to assist the buyer or seller in the conversion from one set of ac-
counting principles to another related to the closing financial statements.

GAAP

Most agreements contain a clause requiring that the closing balance sheet conform to GAAP consistent-
ly applied over a relevant period or point in time that predates the sale. Parties involved in transactions
often mistakenly believe that GAAP clearly defines one right number. Arguments then arise about
whether the accounting method that the seller applied is more appropriate than the accounting method
that the buyer prefers. Such disputes may arise in at least two situations. First, the buyer may propose an
adjustment to the closing balance sheet based on an accounting method different from that applied by
the seller. The buyer claims that the seller used an accounting method inconsistent with the buyer’s un-
derstanding of the acquisition agreement terms. Second, the seller may have prepared the financial
statements used in negotiating and executing the acquisition agreement according to one accounting
method and subsequently may have switched, often subtly, before the closing to a method more favora-
ble to the seller. This situation would arguably result in a closing balance sheet prepared using a differ-
ent accounting method than the historical information provided to the buyer. However, both accounting
methods may be acceptable methods under GAAP. Obviously, these differences can significantly affect
the final purchase price.

In the second preceding situation, the consistent use of an acceptable accounting method will typically
prevail over a claim to change to a preferable accounting method. If the preparer of the financial state-
ments has consistently applied an accounting method that is in accordance with GAAP, a neutral practi-
tioner would not normally take exception.

GAAP Consistently Applied

Another common issue involves the concepts of GAAP and consistency. Conflicts often arise regarding
whether GAAP or consistency takes precedence in applying an accounting method to a particular trans-
action or particular account balance. When GAAP and consistency requirements appear to conflict,
practitioners usually consider GAAP to be the higher and controlling standard. Though important, con-
sistency typically is a secondary consideration to the use of GAAP, unless the acquisition agreement
specifically mandates something to the contrary.

© 2020 Association of International Certified Professional Accountants 33