Brief Definition
The purchase method, also known as the acquisition method, is an accounting approach used in business combinations when one company acquires another. This method requires the acquiring company to record the identifiable assets, liabilities, and any non-controlling interest of the acquired company at their fair values on the acquisition date. Any excess of the purchase price over the fair value of the net identifiable assets is recorded as goodwill.
Further Explanation
The purchase method, also known as the acquisition method, is an accounting approach used in business combinations when one company acquires another. This method requires the acquiring company to record the identifiable assets, liabilities, and any non-controlling interest of the acquired company at their fair values on the acquisition date. Any excess of the purchase price over the fair value of the net identifiable assets is recorded as goodwill.
Example:
Company A acquires Company B for $10 million. The fair value of Company B’s identifiable net assets (assets minus liabilities) is $7 million. Under the purchase method, Company A records Company B’s assets and liabilities at their fair values and recognizes $3 million as goodwill ($10 million purchase price minus $7 million fair value of net assets).