January 22, 2009

SFAS 141(R) Doesn’t Deter Endo Pharmaceuticals from Contingent Payment to Target Shareholders

– by John Jenkins, Calfee, Halter & Griswold LLP

One of the many aspects of SFAS 141(R) that has caused some angst among dealmakers is the provision governing the accounting treatment of contingent purchase price. Prior to the adoption of SFAS 141(R), GAAP required companies to defer recognition of a contingent payment until the resolution of all uncertainties surrounding that payment. In contrast, the new regime requires contingent purchase consideration to be measured at its fair value and recorded on the purchase date. The real kicker, of course, is that subsequent events that affect the fair value of contingent payment obligations will run through the purchaser’s income statement (unless the contingent payment is classified as an equity instrument).

Due to the potential earnings volatility associated with this change, I think many people expect to see a lot fewer deals that involve contingent consideration as a result of the implementation of SFAS 141(R). That’s why the terms of Endo Pharmaceuticals’ pending deal to acquire Indevus are kind of interesting. Even though this $370 million deal is not a small transaction from Endo’s perspective, it was willing to include a significant component of contingent consideration in the transaction, despite the new accounting regime. Here is Endo’s Offer to Purchase and other documentation relating to the transaction.

The deal, which is structured as a front-end tender offer followed by a merger, provides for Indevus shareholders to receive $4.50 per share in cash, together with the contractual right to receive up to an additional $3.00 per share in contingent cash consideration payments. The contingent consideration depends on the performance of two new drugs for which Indevus intends to file new drug applications with the FDA. Payment of the contingent consideration for each drug is conditioned upon the receipt of FDA approval. A portion of the contingent consideration payable with respect to one of the drugs also depends on the sales levels of that drug, if the FDA requires the company to include a so-called “boxed warning” label in its packaging.