Acquisition premium definition
/What is an Acquisition Premium?
An acquisition premium is the difference between the estimated value of a target company prior to an acquisition and the price actually paid for it. Estimated value is calculated as the current market price of the target company’s shares, multiplied by the number of shares outstanding.
An acquisition premium does not arise when a target company is purchased for less than its estimated value. This situation most commonly arises in the absence of other bidders, and when the existing shareholders have an immediate need for cash.
Related AccountingTools Courses
Reasons to Pay an Acquisition Premium
Acquirers are more likely to pay an acquisition premium for the following reasons:
New market access. The acquirer may be interested in gaining access to certain markets in which the acquiree operates. This is especially likely to be the case if the acquiree has access to unique distribution channels in the targeted markets that the acquirer would otherwise have trouble accessing.
Other bidders. If there are other bidders for the target company, the acquirer may need to offer a hefty premium in order to surpass the other bids.
Shareholder reluctance. Shareholders may be unwilling to part with their shares, especially when the business is family-owned, and so will need an excess payment to make them more amenable to the offer.
Synergies. If the acquirer thinks that it can achieve significant synergies by buying the target company, then it will be more interested in paying a higher price in order to secure the deal.
Unique competitive advantages. The acquirer may believe that the target company will provide it with unique competitive advantages, such as a monopoly position, intellectual property, or a highly skilled research and development team.
Accounting for an Acquisition Premium
When there is an acquisition premium, the acquirer records the differential as a goodwill asset on its balance sheet. The acquirer will need to periodically evaluate the goodwill balance to see if it is impaired; if so, it will need to write off some or all of the goodwill balance, with the write-off being charged to expense in the current period. Impairment is typically triggered by declining cash flows at the acquired entity or an increasingly competitive environment for it.