Defense Industry Consolidation: Issues Related to Acquisition and Merger Restructuring Costs

This document discusses the allowability of restructuring costs incident to mergers and acquisitions. The pace of consolidation of the U.S. defense industry has increased sharply this year. In the 16 months between August 1992 and December 1993, the industry experienced 4 large mergers and acquisitions but, since only the beginning of this year, the industry has seen 5 major combinations of business firms. This dramatic reshaping of the industry involves extraordinarily complex transactions with potentially significant cost, benefit, and risk implications for corporate bottom lines, taxpayer expenditures, and national security capabilities. Therefore, the issues surrounding the allowability of restructuring costs incident to mergers and acquisitions are important and deserve careful consideration and deliberation. Allowing restructuring costs incident to a merger or acquisition is a powerful incentive for defense firms to right-size for the current market. The allowability of costs incurred in performing a government contract is governed by the Federal Acquisition Regulation FAR. Although there is no cost principle on restructuring costs, the FAR provides specific coverage on some costs incident to a merger or acquisition. For example, organization costs--such as brokers or attorney fees--are unallowable. Likewise, an acquiring company may not include in its overhead accounts amounts for depreciation of acquired assets in excess of the amounts that would have been allowed had the combination not occurred.