The Financial Accounting Standards Board is proposing a new, simpler way to measure any reduction in the value of goodwill that companies should recognize on the balance sheet.
Goodwill is an asset that arises through mergers or acquisitions, representing the premium a company pays to purchase a business unit over and above the fair value of its individual assets and liabilities. The accounting for goodwill in periods after an acquisition has been a source of angst for preparers as current rules require detailed testing to determine if the value is holding up in subsequent periods, not to mention measurement if its value is faltering to determine what amount should be marked down.
FASB simplified the testing rules to give companies both a qualitative as well as quantitative means of testing whether goodwill should be written down, a method companies have employed in great numbers. Now FASB is proposing a simpler way to measure that markdown if initial testing determines a markdown is warranted.
Under current guidance, if an entity determines through testing that the value of goodwill is not holding up over time and should be written down, companies must perform a valuation of all the assets and liabilities in the affected reporting unit to arrive new fair values, which produces a current value for goodwill that must be reflected through a markdown, or an impairment charge.
FASB is proposing to remove “step two” from the current two-step test, which is where the full-fair-value exercise is performed. Under the proposed amendment to accounting standards, companies would perform their annual or interim goodwill impairment testing as they do under current guidance by comparing the fair value of an entire reporting unit with the carrying amount on the balance sheet. If the carrying amount exceeds the fair value, an impairment charge would be taken to reflect the difference, not to exceed the amount of goodwill allocated to that unit.
FASB also is proposing to remove current requirements for any reporting unit with zero or negative carrying amounts to perform a qualitative assessment, the failure of which would necessitate the second step in the testing process with all of its fair value measurement requirements. That would mean the same impairment assessment would apply to all reporting units, FASB says. Entities would be required to disclose the existence of any reporting units with zero or negative carrying amounts and the amount of goodwill allocated to those reporting units.
In an alert to clients, PwC says the proposal would simplify financial reporting because it would eliminate the current requirement to determine the fair value of individual assets and liabilities of a reporting unit to measure any impairment in goodwill. “The amount of impairment recognized under the proposal could be larger or smaller than today largely depending on the difference between the carrying value and fair value of certain long-lived assets,” PwC says.
As an example, an entity with significant unrecognized intangible assets or significantly appreciated assets might recognize smaller impairment under the proposal, PwC says. On the other hand, an entity with significant plant, property and equipment with carrying amounts in excess of fair value might recognize larger impairment charges than under existing guidance. In addition, while some companies may recognize no impairment today even when they fail the first step in the two-step test, those companies would recognize some impairment amount under the proposal, the firm says.