The Financial Accounting Standards Board (FASB) released an accounting standard on May 30, 2019, that allows nonprofit organizations to use simpler, less expensive techniques available to private companies to report goodwill and certain identifiable intangible assets.
The recent update is effective immediately. It’s intended to provide donors and other financial report users with more comparable information on how certain kinds of acquired intangible assets fared in the long run following a merger and acquisition (M&A) transaction.
Goodwill and other intangibles
In an M&A, goodwill is one of the intangible assets acquired. It’s determined by deducting the fair values of tangible assets, recognizable intangible assets and liabilities acquired in the purchase from the selling price. If its fair value drops below its carrying value, goodwill becomes impaired.
Under current U.S. generally accepted accounting principles (GAAP), organizations merging with or acquiring another business must identify and recognize the fair value of goodwill and other intangible assets that are separable or arise from contractual or other legal rights. Intangible valuation can be expensive, subjective and complex, often requiring the use of third-party appraisers and increasing audit expenses.
Under GAAP, entities must annually test goodwill and other indefinite-lived intangibles for impairment. They also must test for impairment if there is a so-called “triggering event”:
- Decline in economic conditions
- Increased competition
- Loss of essential personnel
- Regulatory action
In 2014, the FASB issued the following two alternatives allowing private companies to use simplified post-M&A financial reporting methods for goodwill and certain other intangible assets:
- Accounting Standards Update (ASU) 2014-02, Intangibles — Goodwill and Other (Topic 350): Accounting for Goodwill
- ASU 2014-18, Business Combinations (Topic 805): Accounting for Identifiable Intangible Assets in a Business Combination
ASU 2014-02 enables private companies to opt out of an annual goodwill impairment test and, instead, write off goodwill on a straight-line basis over a 10-year period (or less). ASU 2014-18 allows private companies to incorporate into goodwill any acquired noncompete agreements and intangible assets related to the customer that can’t be sold or licensed independently from the other assets of a business. However, if that election is made, it is necessary to amortize goodwill.
It’s essential to note that these alternatives are optional. Moreover, even if an entity elects to amortize goodwill, if a triggering event occurs, it still has to test for impairment. And, without electing to subsume noncompetes and certain intangibles into goodwill, an entity can still elect to amortize goodwill.
Extending alternatives to nonprofits
Now, the FASB has issued ASU 2019-06, Intangibles — Goodwill and Other (Topic 350), Business Combinations (Topic 805), and Not-for-Profit Entities (Topic 958): Extending the Private Company Accounting Alternatives on Goodwill and Certain Identifiable Intangible Assets to Not-for-Profit Entities. Its name says it all: the update effectively extends ASUs 2014-02 and 2014-18 to nonprofits.
Guidance for private companies is not amended in the update. So, like those alternatives, the new standard maintains the provisions for triggering events, requiring nonprofits to test for impairment in such circumstances. Nonprofit entities may also elect to test for impairment at the entity level.
Nonprofit goodwill arises less frequently than for-profit goodwill. The nonprofit variation is derived from two general types of transactions: 1) when a nonprofit acquires a for-profit entity, and 2) when a nonprofit acquires an entity in a net deficit position and the combined entity is predominantly supported by fee-for-service revenues.
Although the update applies to all nonprofits, it’s particularly meaningful to some nonprofit hospitals and health care facilities. Nontraditional players — such as Amazon, Walmart and Apple — have entered the health care arena in recent years, potentially driving M&A activity among nonprofit health care entities.
One-time choice, no deadline
Nonprofits have the same open-ended effective date and unconditional one-time election as private companies. The transition methods are also the same for both. That is, the accounting alternative should be implemented prospectively for all current goodwill and all new goodwill generated by nonprofit entities in M&As. And when the first transaction occurs within the scope of the alternative, the option to subsume certain intangibles into goodwill should be applied prospectively.
If you have any questions about these accounting alternatives, please contact a Weaver professional. We can help you decide whether making this election is the right choice for your entity’s M&A transaction.