Testing a purchase price allocation means independently identifying every asset acquired and liability assumed that meets the recognition criteria for a business combination — including intangible assets the target never recognised on its own balance sheet, such as customer relationships, brand names, or order backlogs — testing the fair value assigned to each one using an approach appropriate to that specific asset, and only then computing goodwill as the residual difference between consideration transferred and the net fair value of everything identified, rather than accepting a goodwill figure decided first and backed into.
Why completeness of the identified assets comes before the valuation
The single most consequential error in a purchase price allocation is not a wrong valuation of a recognised asset — it is an intangible asset that should have been separately recognised and valued but was instead folded into goodwill, where it will never be amortised and will only be tested through an impairment review that may not catch its decline for years.
The testing sequence
- 01Obtain the acquisition agreement and determine the consideration transferredCash, equity instruments issued, contingent consideration, and any pre-existing relationship settled as part of the transaction — each component needs to be separately identified and measured at its own fair value at the acquisition date.
- 02Build an independent list of identifiable intangible assets, starting from what the target's business actually consists ofCustomer relationships and contracts, brand names and trademarks, proprietary technology or software, non-compete agreements, and favourable or unfavourable leases — work from the nature of the business rather than from the valuer's report alone, to check nothing was left out.
- 03Test the valuation method applied to each identified asset against the approach appropriate for that asset typeA relief-from-royalty method for a brand, a multi-period excess earnings method for customer relationships, and a cost approach for internally developed technology are different methods for different assets — a single blended approach across dissimilar assets is a sign the valuation was not built asset by asset.
- 04Test the key assumptions behind each valuation independentlyRoyalty rates, customer attrition rates, and discount rates specific to the risk profile of each asset, benchmarked against market data rather than taken from the valuer's report without challenge.
- 05Test the fair value of assumed liabilities and any contingent liability recognisedContingent liabilities are recognised in a business combination if their fair value can be reliably measured, a lower recognition threshold than ordinary provisioning — confirm this was actually applied rather than defaulted to the entity's usual provisioning policy.
- 06Recompute goodwill as the residual, and only after every identifiable item has been valuedConsideration transferred, plus any non-controlling interest at its measured amount, less the net fair value of identifiable assets acquired and liabilities assumed. A goodwill figure that was fixed before this computation, with the valuation then adjusted to arrive at it, is evidence the process ran backwards.
- 07Test the measurement period adjustments if the allocation is provisionalAdjustments made within the measurement period to reflect new information about facts existing at the acquisition date are retrospective; anything after the measurement period, or reflecting events after the acquisition date, should go through profit or loss instead.
| Element | What is tested |
|---|---|
| Consideration transferred | Each component measured at acquisition-date fair value, including contingent consideration |
| Identifiable intangible assets | Completeness against the nature of the acquired business, valuation method matched to asset type |
| Identifiable tangible assets and liabilities | Fair value, not carrying value, at the acquisition date |
| Contingent liabilities | Recognised where fair value is reliably measurable, at the lower threshold specific to business combinations |
| Goodwill | Computed as the residual, after every other item above is finalised |
Regulatory requirement
Ind AS 103 sets the recognition criteria for identifiable assets and liabilities in a business combination, including intangible assets not previously recognised by the acquiree, the measurement period for provisional allocations, and the computation of goodwill as a residual. Verify the current text before concluding.
How we think about this
The residual computation of goodwill, once every other component is valued, is pure arithmetic and should be the last step, never the first. The real judgement is in identifying every intangible asset the target's business actually carries and choosing a valuation method suited to its specific economics — and that judgement is exactly where an allocation gets quietly shaped to produce a smaller, less scrutinised goodwill balance.
This is practical guidance written for audit teams, not an authoritative statement of any standard or statute. Standards, forms and timelines change. Check the current text issued by the ICAI and the relevant authority before relying on anything here in an audit file.
Related resources
- Fixed assets & capexHow to test goodwill for impairment at the CGU levelConfirm the CGU allocation goes back to the acquisition itself, test the recoverable amount model built for each unit, and check the impairment loss was allocated in the right sequence.
- Audit workflow & automationSA 540: auditing accounting estimates, where judgment replaces a verifiable numberAn estimate can't be vouched to a source document the way an invoice can. SA 540 is about what replaces vouching when there's no single right answer to check against.
- Audit workflow & automationSA 620: using the work of an auditor's expertA qualified expert's signature on a report is not, by itself, sufficient audit evidence. SA 620 is about what the auditor still has to do with that report.
- Fixed assets & capexInd AS 38: intangible assets, and why most internally generated ones never make the balance sheetResearch is always expensed. Development can be capitalised, but only once six specific conditions are all met — a much stricter bar than it sounds.
Free tools, no signup
Each one reads a file entirely in your browser — or, for two of them, just answers a few questions — and nothing is ever uploaded.
- Purchase register checkDuplicate payments, round-sum amounts, weekend-dated invoices, incomplete records.
- GSTR-2B reconcilerMatches your purchase register against GSTR-2B — missing invoices either side, amount mismatches.
- Bank reconciliation checkerMatches your cash book against a bank statement — what's outstanding on each side.
- Payroll red-flag scannerBank accounts shared across employees, and records missing an ID, PAN or salary.
- CARO applicability checkerAnswer a few questions about the company and see which CARO 2020 clauses likely apply.
- MSME payment delay checkerMSME-flagged invoices paid — or still unpaid — beyond the 45-day Section 22 limit.
- Related-party transaction screenerTransactions above a threshold you set with no approval reference, grouped by counterparty.
- Depreciation useful life checkerCompares a useful life in use against the Schedule II, Part C indicative figure.
- Materiality calculatorOverall and performance materiality against PBT, revenue, assets or equity, with reasoning shown.
- Sample size calculatorStatistical sample size for a test of controls or a substantive test of detail.