Recording a Liability Before Its Time? Palto Inc. and Salto Inc. recently combined in a purchase business combination. Goodwill of $10,000,000 was initially calculated residually. To integrate the two operations, certain facilities of both entities will be closed. Consequently, some of the em¬

ployees will be terminated. The controller has proposed that the estimated severance pay of

$4,000,000 ($1,000,000 pertaining to Palto’s employees and $3,000,000 pertaining to Salto’s em¬

ployees) be reflected as an undervalued liability of Salto in assigning Palto’s cost to Salto’s assets and liabilities.

1. How will treating the $4,000,000 as an undervalued liability at the acquisition date impact goodwill?
2. Does a financial reporting benefit result from this proposal?
3. Is this proposed treatment theoretically correct?