Q1: General Aspects of the Deal Structure
(A) How was the combination of Wild Oats structured? Explain Why?
There are three types of deal structures that can be adopted for a transaction involving mergers and acquisitions; they include asset sale, stock purchase and merger. With regard to stock transactions, there is the transference of stock shares from the seller to the buyer, which implies that the buyer assumes all operations of the business, contingent liabilities, liabilities and assets expect when the Stock Purchase states otherwise. With regard to asset transaction, only the liabilities and assets outlined in the Asset Purchase Agreement are transferred to the buyer; as a result, the buyer is compelled to either establish a new business entity or make use of an existing business entity to make the acquisition (Siegel, Dauber, & Shim, 2005). Under asset transactions, sellers usually retain the payables, receivables and cash. Any debt on the seller results to an increase in the buying price. In the case of a merger, the target firm often merges with the acquired firm; therefore, the target company is combined with wither the acquirer or one of the subsidiaries of the acquirer. According to Hunt (2009), sellers often prefer to use stock transactions; this is because it facilitates an easy transition and allows them to pay taxes in the sale using the lower capital gains rate. On the other hand, buyers often prefer to use asset transactions because it specifies the liabilities assumed and assets acquired. With regard to the case of Whole Foods, it is apparent that the deal structure was stock transaction. This is because the transaction outlined in the agreement and plan of merger involves the purchase all outstanding shares of Company Common Stock, at the Offer Price; which is evidently transference of stocks from the seller to the purchaser, who assumes all operations of the business, contingent liabilities, liabilities and assets (Siegel, Dauber, & Shim, 2005).
Q2: Further Aspects of the Deal Structure
(A) Was it a forward or reverse merger, and was it a straight merger or triangular merger?
In the case of a forward merger, the target company often merges with and into the buyer, which eliminates the existence of the target firm. In this regard, the buyer assumes the liabilities and assets of the target firm. On the other hand, a reverse merger involves a private firm buying a publicly traded firm (Siegel, Dauber, & Shim, 2005). Reverse mergers often entails renaming the public firm and enables private firms to be publicly traded while avoiding the financial and regulatory requirements that are often linked to an Initial Public Offer (IPO). For the case of straight mergers, the seller often goes away while the buyer survives. In the case of a triangular merger, the acquiring firm can have the control of the target firm without the need to be a constituent firm; therefore, the acquiring firm establishes a new subsidiary into which the target firm is merged. In a reverse triangular merger, the merger is the same as the triangular merger only that the subsidiary firm is merged into the target corporation (Siegel, Dauber, & Shim, 2005). For instance, under Section 2.3 Effect of the Merger, of the agreement and plan of merger, the document states that “all the property rights, privileges, powers and franchises of the Company and Merger Subsidiary shall vest in the Surviving Corporation, and all debts, liabilities and duties of the Company and Merger Sub shall become the debts, liabilities and duties of the Surviving Corporation”. In addition, the deal structure can also be perceived to be a forward triangular merger, wherein the subsidiary firm is also capitalized taking when buying the target firm. This is spelled under section 2.1, the merger, of the agreement and plan of merger, which states that “At the Effective Time and subject to and upon the terms and conditions of this Agreement and the DGCL, Merger Sub shall be merged with and into the Company, the separate corporate existence of Merger Sub shall cease, and the Company shall continue as the surviving corporation. The Company as the surviving corporation after the Merger hereinafter sometimes is referred to as the “Surviving Corporation.””
(B) What companies were parties to the merger, who was the merging company, and who was the surviving company?
In this merger agreement, Whole Foods Market Inc was the purchaser, Delaware Corporation was the target firm, and had a subsidiary WFMI Merger Co. The surviving company was Delaware Corporation.
(C) Why (i.e., what’s the advantage of choosing one option versus the other)?
As mentioned above, the deal structure was a forward merger, which is fundamentally similar to a direct merger with the only difference being that the target company is merged into the subsidiary of the purchaser. This type of deal structure presents a number of advantages and disadvantages (Siegel, Dauber, & Shim, 2005). The forward triangular merger is simpler to implement; this is because they purchaser is viewed as the sole shareholder of the merger/acquisition subsidiary, which implies that it is relatively easy to obtain shareholder approval. The selection of the surviving firm can be determined by a number of factors such as tax considerations and brand recognition, and any other commercial factors that the merging parties consider significant (Siegel, Dauber, & Shim, 2005). Other advantages of a forward triangular merger include: less costly to implement when compared to an acquisition; assets and rights are not transferrable and are often retained by the buyer; evades issues related to sales tax; evades issues related to the restrictions on sale of assets and bulk-sales laws; employment agreements, contracts and legal documents are not altered following the merger; and legal simplicity (Siegel, Dauber, & Shim, 2005).
Q3: Goodwill Accounting
(A) Provide a detailed analysis on how the company applied SFAS 141. Specifically, analyze intangible assets acquired and assign costs to each item. What amount of goodwill was assigned finally?
Recently, the Financial Accounting Standards Board (FASB) has adopted new definitions and procedures with regard to SFAS 141 on business combinations and SFAS 142 with regard to intangible assets. For the purposes of financial reporting, goodwill is no longer perceived as an intangible asset (Hunt, 2009). According to the requirements of SFAS 141, intangible assets should be valued and documented in financial statements and should not be included as part of goodwill. In addition, SFAS 141 requires that purchases to disclose independent fair value allocation for the purchase price of all the acquired intangible and tangible assets. Both the intangible and tangible assets should be reviewed annually and any other time a triggering event is highly likely to impair the goodwill (Siegel, Dauber, & Shim, 2005).
When accounting for mergers and acquisitions, it is imperative to compute the fair values for assets that have been acquired and the liabilities that have been assumed following the transaction. Often, this poses the need for an independent valuation of the acquired assets and the allocation of value for the purchase price for intangible and tangible assets as well as goodwill. SFAS 141 is applicable to business combinations wherein the net assets of a firm is acquired, which gives the acquiring firm control over the enterprises. It is imperative to note that this provision does not change the accounting principles used in the acquisition of assets and allocation of the costs of acquiring those assets and liabilities that have been assumed. SFAS 141 requires that business combinations be accounted for by making use of the purchase method of accounting (Siegel, Dauber, & Shim, 2005).
These changes have made the valuation and identification of intangible assets more important, especially during pre-acquisition and post-acquisition compliance with the standards of financial reporting. With regard to the Whole Foods case, Whole Foods is the purchaser, which implies that it acquired the both intangible and tangible assets of Wild Oats; these should not be included in goodwill (Siegel, Dauber, & Shim, 2005). The company applied SFAS 141 in the sense that the purchaser (Whole Foods) used the trade name for Wild Oats, as the surviving firm. Essentially, the trade name for the surviving firm is derived from the target/acquired firm. In this regard, the particular acquired intangible asset in this transaction is the trade name of the acquired firm (Wild Oats) by the purchaser. Therefore, the trade name should not be treated as goodwill in the balance sheet, according to the requirements of SFAS 141. Other intangible assets acquired, basing on the information provided in the balance sheet, include “other intangibles”. The final value of goodwill assigned will be calculated by adding both the seller and buyer balances as outlined in the balance sheet, which equals to $774 million. Alternatively, goodwill can be computed by subtracting the book value of the target firm (written up to its fair market value) from the equity purchase price paid to acquire that firm. This is sometimes known as excess purchase price. According to up to date accounting principles, goodwill is not subject to amortization although it must be tested annually for impairment. Lack of impairment implies that the goodwill ca continue to be reflected in the balance sheet for an indefinite period.
(B) How would the balance sheet of the Whole Food look like (focusing on broad categories) had Whole Foods only executed the Tender offer but that it was precluded from the merger.
When adjusting and combining balance sheets following a merger, it is imperative to note a debit denotes an addition to Assets and a subtraction from the liabilities and Shareholders’ Equity whereas a credit denotes a minus from the Assets and an addition to the Liabilities and Shareholders’ Equity.
Q4: Purchase Price Allocation (A) Using the final purchase price allocation information for Wild Oats acquisition from Whole Food from its 10-K, analyze intangible assets acquired and assign costs to each item. Note: Whole Food disclosed both a preliminary and a final purchase price allocation. Make sure that you retrieve the final allocation numbers.
Purchase price allocation entails the use of goodwill accounting wherein the acquiring firm allocates the purchase price for several liabilities and assets following a transaction. Intangible assets can be of two types: those arising from legal or contractual rights and those that do not arise from legal or contractual rights but can be exchanged, sold or transferred as part of a liability or asset. Whole Foods acquired Wild Oats at a cost of $ 700 million. At the same time, total liabilities and equity for Wild Oats (as from the balance sheet) was $ 437.96 million, which implies that the acquired assets (both tangible and intangible) were valued at $ 262.04 million. It can be affirmed that this difference accounts for the Goodwill created and intangible assets.
Appendix 1: Combining the Balance sheet and Purchase Price Allocation and the Creation of Goodwill
New Goodwill Created = Seller Book Value + Equity Purchase Price + the Seller’s Existing Goodwill – Intangibles Write-Up – PP&E Write UP – Seller’s Existing Deferred tax liability + Write-Down of Seller’s Existing Deferred Tax Asset + The Newly Created Deferred Tax Liability
Intangible Write up = [Seller existing goodwill + seller’s book value + equity purchase price] x percentage
PP&E Write UP = [Seller’s existing goodwill + equity purchase price – seller book value] x percentage
New Deferred Tax Liability = Buyer Tax rate x [PP&E Write up + Intangibles Write up]
Deferred Revenue Write-Down = seller’s deferred revenue balance x [1- fair value percentage]
It is imperative to note that intangibles write up, write-down for deferred tax asset, new deferred tax liability creation and new goodwill creation take place “at the instant” of the merger transaction while the writing down of the deferred revenue follows the closure of the transaction.
When adjusting and combining balance sheets following a merger, it is imperative to note a debit denotes an addition to Assets and a subtraction from the liabilities and Shareholders’ Equity whereas a credit denotes a minus from the Assets and an addition to the Liabilities and Shareholders’ Equity. In this regard, the following formulae were used to reach at the figures of a combined balance sheet for the case:
Cash = Buyer’s cash + seller’s cash – any cash utilized during the transaction;
Short term investments = Buyer balances + seller balances
Accounts Receivable = Buyer balance + seller balance
Inventory = buyer balance + seller balance
Other current assets = buyer balance + seller balance
Capitalized Financing Fees is added to assets and create it during transaction
Net PP&E = buyer balance + seller balance + PP&E write up
Goodwill = buyer balance + seller balance
Net Intangible Assets: Buyer balance + seller balance + intangibles write up
Deferred income tax = buyer balance + seller balance
Liabilities and Shareholder Equity
Accounts Payable = buyer balances + seller balances
Accrued expenses = buyer balances + seller balances
Deferred revenue = buyer balances + seller balances
Debt = Buyer balances – refinanced debt – newly issued debt
Deferred tax liabilities = buyer balances + seller balances
Other Long term liabilities = buyer balances + seller balances
Minority Interests = Buyer balances + seller interests – any purchased minority interests
Shareholders’ Equity = buyer balance + seller balances – transaction fees.