Customer contracts and the related customer relationships – In a Business Combinations, these are intangible assets and are therefore recognised separately from goodwill, provided that their fair values can be measured reliably. These marketing-related intangible assets meet the definition of an intangible asset because they arise from contractual or other legal rights. Refer to intangible assets for a overview.
Examples of customer related intangible assets are:
| Class | Basis |
| Customer list | Non-contractual |
| Order or production backlog | Contractual |
| Customer contracts and the related customer relationships | Contractual |
| Non-contractual customer relationships | Non-contractual |
If an entity establishes relationships with its customers through contracts, those customer relationships arise from contractual rights. Therefore, customer contracts and the related customer relationships acquired in a business combination meet the contractual-legal criterion for identification as intangible assets. This will be the case even if confidentiality or other contractual terms prohibit the sale or transfer of a contract separately from the acquired entity or business.
Customer relationships also meet the contractual-legal criterion for identification as intangible assets when an entity has a practice of establishing contracts with its customers, regardless of whether a contract exists at the date of acquisition.
Customer relationships form a key intangible asset for firms operating in many industries. Firms devote significant human and financial resources in developing, maintaining and upgrading customer relationships. In some instances, supply or customer contracts give rise to identifiable intangible assets. More broadly, however, customer related intangible assets consist of the information gleaned from repeat transactions, with or without underlying contracts. Firms can and do lease, sell, buy or otherwise trade such information, which are generally organized as customer lists. Customer contracts and the related customer relationships
Three key attributes are important in considering the value of customer-related intangible assets: Customer contracts and the related customer relationships
- The expectation of repeat patronage creates value for customer-related intangible assets. Contractual customer relationships formally codify the expectation of future transactions. Even in the absence of contracts, firms look to build on past interactions with customers to sell products and services in the future. Two aspects of repeat patronage are important in evaluating customer relationships. First, not all customer contact leads to an expectation of repeat patronage. The quality of interaction with walk-up retail customers, for instance, is generally considered inadequate to reliably lead to expectations of recurring business. Second, even in the presence of adequate information, not all expected repeat business may be attributable to
customer-related intangible assets. Some firms operate in monopolistic or near-monopolistic industries where repeat patronage is directly attributable to a dearth of acceptable alternatives available to customers. In other cases, it may be more appropriate to attribute recurring business to the strength of the trade names or brands. Customer contracts and the related customer relationships - Customer-related intangible assets create value over a finite period. Without efforts geared towards continual reinforcement, customer lists dwindle over time due to customer mortality, the ravages of competition, or the emergence of alternate products and services. The mechanics of present value mathematics further erode the economic benefits of sales to current customers in the distant future. Customer relationships are wasting assets whose economic value deteriorates with the passage of time. Customer contracts and the related customer relationships Customer contracts and the related customer relationships
- Customer-related intangible assets depend on the existence of other assets to provide value to the firm. Most assets, including fixed assets and intellectual property, are essential in creating products or providing services. The act of selling these products and services enable firms to develop relationships and collect information from customers. In turn, the value of these relationships depends on the firm’s ability to sell additional products and services in the future. Consequently, for firms to extract value from customer related assets, a number of other assets need to be in place. Customer contracts and the related customer relationships
As noted in the intangible assets-class Order or production backlog, an order or a production backlog arises from contracts such as purchase or sales orders, and is therefore also considered a contractual right. Consequently, if an entity has customer relationships with its customers through these types of contracts, the customer relationships also arise from contractual rights, and therefore meet the contractual-legal criterion for identification as intangible assets. Customer contracts and the related customer relationships
Case – One Customer, Contract in One of Two Lines of Business
Object Co. manufactures goods in two distinct lines of business: sporting goods and electronics. Customer purchases both sporting goods and electronics from Object Co.. Object Co. has a contract with Customer to be its exclusive provider of sporting goods but has no contract for the supply of electronics to Customer. Both Object Co. and Acquiring Co. believe that only one overall customer relationship exists between Object Co. and Customer. Customer contracts and the related customer relationships
The contract to be Customer’s exclusive supplier of sporting goods, whether cancelable or not, meets the contractual-legal criterion. Additionally, because Object Co. establishes its relationship with Customer through a contract, the customer relationship with Customer meets the contractual-legal criterion. Because Object Co. has only one customer relationship with Customer, the fair value of that relationship incorporates assumptions about Object Co.’s relationship with Customer related to both sporting goods and electronics.
However, if Acquiring Co. determines that the customer relationships with Customer for sporting goods and for electronics are separate from each other, Acquiring Co. would assess whether the customer relationship for electronics meets the separability criterion for identification as an intangible asset. Customer contracts and the related customer relationships
Case – Purchase and Sales Orders
Object Co. does business with its customers solely through purchase and sales orders. At December 31, 20X5, Object Co. has a backlog of customer purchase orders from 60 percent of its customers, all of whom are recurring customers. The other 40 percent of Object Co.’s customers also are recurring customers. However, as of December 31, 20X5, Object Co. has no open purchase orders or other contracts with those customers. Customer contracts and the related customer relationships
Regardless of whether they are cancelable or not, the purchase orders from 60 percent of Object Co.’s customers meet the contractual-legal criterion. Additionally, because Object Co. has established its relationship with 60 percent of its customers through contracts, not only the purchase orders but also Object Co.’s customer relationships meet the contractual-legal criterion. Because Object Co. has a practice of establishing contracts with the remaining 40 percent of its customers, its relationship with those customers also arises through contractual rights and therefore meets the contractual-legal criterion even though Object Co. does not have contracts with those customers at December 31, 20X5. Customer contracts and the related customer relationships
Case – Cancelable Contracts
Object Co. has a portfolio of one-year motor insurance contracts that are cancelable by policyholders. Because Object Co. establishes its relationships with policyholders through insurance contracts, the customer relationship with policyholders meets the contractual-legal criterion. Customer contracts and the related customer relationships
Disclosure examples
Business Combination Disclosure Example – Caterpillar Customer contracts and the related customer relationships
Form 10-K for the fiscal year ended December 31, 2015 (Note 24) Customer contracts and the related customer relationships
RDS Manufacturing, Inc. Customer contracts and the related customer relationships
In December 2015, we acquired 100 percent of the stock of RDS Manufacturing, Inc. (RDS). RDS, located in Broken Arrow, Oklahoma, is a privately owned manufacturer of highly engineered turbo machinery parts, primarily for the turbine engine and aerospace markets. The acquisition of RDS is expected to help grow our turbine business and deepen our manufacturing expertise. The purchase price, net of $1 million of acquired cash and $5 million of trade receivables due from Caterpillar, was approximately $85 million. We paid $74 million at closing with an additional $11 million to be paid in December 2017. Customer contracts and the related customer relationships
The transaction was financed with available cash. Tangible assets acquired of $28 million, recorded at their fair values, were primarily inventories of $1
2 million and property, plant and equipment of $16 million. Liabilities assumed as of the acquisition date were $2 million, which represented their fair values. Goodwill of $59 million, substantially all of which is deductible for income tax purposes, represented the excess of the consideration transferred over the net assets recognized and represented the estimated future economic benefits arising from other assets acquired that could not be individually identified and separately recognized. Customer contracts and the related customer relationships
Factors that contributed to a purchase price resulting in the recognition of goodwill include RDS’s strategic fit into our manufacturing and product portfolio and the acquired assembled workforce. The results of the acquired business for the period from the acquisition date are included in the accompanying consolidated financial statements and are reported in the Energy & Transportation segment. Assuming this transaction had been made at the beginning of any period presented, the consolidated pro forma results would not be materially different from reported results.
Rail Product Solutions, Inc.
In October 2015, we acquired 100 percent of the stock in privately owned Rail Product Solutions, Inc. (RPS) from Amsted Rail Company, Inc. RPS is a leading North American provider of mission critical track fastening products and integrated fastening systems. The acquisition of RPS expands our portfolio of track related products and allows us to provide more comprehensive solutions to our customers. The purchase price was approximately $165 million, consisting of $166 million paid at closing less an estimated net working capital adjustment of $1 million anticipated to be finalized in 2016. Customer contracts and the related customer relationships
The transaction was financed with available cash. Tangible assets acquired of $41 million, recorded at their fair values, were primarily receivables of $9 million, inventories of $6 million, property, plant and equipment of $17 million and an investment in an unconsolidated affiliated company of $9 million. Finite lived intangible assets acquired of $82 million were primarily customer relationships and are being amortized on a straight-line basis over a weighted average period of approximately 15 years. Liabilities assumed as of the acquisition date were $11 million, which represented their fair values. Customer contracts and the related customer relationships
Goodwill of $53 million, substantially all of which is deductible for income tax purposes, represented the excess of the consideration transferred over the net assets recognized and represented the estimated future economic benefits arising from other assets acquired that could not be individually identified and separately recognized. Factors that contributed to a purchase price resulting in the recognition of goodwill include RPS’s strategic fit into our product and services portfolio and the acquired assembled workforce.
The results of the acquired business for the period from the acquisition date are included in the accompanying consolidated financial statements and are reported in the Energy & Transportation segment. Assuming this transaction had been made at the beginning of any period presented, the consolidated pro forma results would not be materially different from reported results.
Johan Walter Berg AB
In September 2013, we acquired 100 percent of the stock of Johan Walter Berg AB (Berg). Berg is a leading manufacturer of mechanically and electrically driven propulsion systems and marine controls for ships. Headquartered in Öckerö Islands, Sweden, Berg has designed and manufactured heavy-duty marine thrusters and controllable pitch propellers since 1929. Its proprietary systems are employed in maritime applications throughout the world that require precise maneuvering and positioning. Customer contracts and the related customer relationships
With the acquisition, Caterpillar will transition from selling only engines and generators to providing complete marine propulsion package systems. The purchase price, net of $9 million of acquired cash, was approximately $169 million. The purchase price included contingent consideration, payable in 2016. The contingent consideration was based on the revenues achieved by Berg in the period from January 1, 2013 to December 31, 2015 and had a fair value of approximately $7 million on the acquisition date. As of December 31, 2015, no payment is expected to be made.
The transaction was financed with available cash. Tangible assets as of the acquisition date were $82 million, recorded at their fair values, and primarily included cash of $9 million, receivables of $13 million, inventories of $32 million and property, plant and equipment of $28 million. Finite-lived intangible assets acquired of $70 million included developed technology, customer relationships and trade names. Customer contracts and the related customer relationships
The finite lived intangible assets are being amortized on a straight-line basis over a weighted-average amortization period of approximately 11 years. Liabilities assumed as of the acquisition date were $87 million, recorded at their fair values, and primarily included accounts payable of $19 million, customer advances of $31 million and net deferred tax liabilities of $15 million. Goodwill of $113 million, non-deductible for income tax purposes, represented the excess of the consideration transferred over the net assets recognized and represented the estimated future economic benefits arising from other assets acquired that could not be individually identified and separately recognized. Customer contracts and the related customer relationships
Factors that contributed to a purchase price resulting in the recognition of goodwill include Berg’s strategic fit into our product portfolio, the opportunity to provide worldwide support to marine operators for a complete, optimized propulsion package, and the acquired assembled workforce. Customer contracts and the related customer relationships
The results of the acquired business for the period from the acquisition date are included in the accompanying consolidated financial statements and are reported in the Energy & Transportation segment. Assuming this transaction had been made at the beginning of any period presented, the consolidated pro forma results would not be materially different from reported results.
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