FASB Launches Its Goodwill Simplification Project for Public Companies

On May 12, the Financial Accounting Standards Board (FASB) issued a proposal to simplify the measurement of goodwill impairments by removing the current requirement for measuring them. Here’s more on this proposal and related considerations on the FASB’s radar.

A closer look at goodwill and impairment testing

Goodwill is typically associated with the premium the buyer of a business or asset pays over its fair value. It’s an intangible asset that may be linked to things like a target company’s customer loyalty or business reputation. 

Under U.S. Generally Accepted Accounting Principles (GAAP), public companies that report goodwill on their balance sheet can’t amortize it. Instead, goodwill must be tested at least annually for impairment. When impairment occurs, the company must write down the reported value of goodwill. 

Testing should also happen whenever a “triggering event” occurs that could lower the value of goodwill. Examples of triggering events include the loss of a key customer, unanticipated competition or negative cash flows from operations.

Goodwill may be marked down after an acquisition has been completed if there’s been a stock market or economic downturn that causes the parent company or the acquired business to lose value. Impairment writedowns reduce the carrying value of goodwill on the balance sheet, and they lower profits reported on the income statement. 

Under the existing rules, impairment testing is a two-step process. In the first step, a company compares the fair value of its reporting units with their carrying value, including goodwill. 

If the carrying amount of a reporting unit is greater than its fair value, the company must take a second step and calculate the implied fair value of goodwill by performing a hypothetical application of the acquisition method as of the date of the impairment test. This second step is similar to the purchase price allocation that’s performed when a company is acquired. Impairment equals the excess of the carrying amount of goodwill over its implied fair value.

A simplified testing approach

Proposed Accounting Standards Update (ASU) No. 2016-230, Intangibles — Goodwill and Other (Topic 350): Simplifying the Accounting for Goodwill Impairment, would remove the second step of the goodwill impairment test. Under the proposed revisions, the FASB would require an entity carrying out a quarterly or yearly impairment test to compare the fair value of a reporting unit with its value on the balance sheet. The amount by which the amount on the balance sheet exceeds the unit’s fair value would be considered the impairment charge. 

The FASB said the proposed elimination of the second step of the impairment test should lower the cost of testing goodwill for a writedown. The proposal modifies the underlying concept for testing goodwill by focusing on the relationship between the balance-sheet value and fair value of the reporting unit instead of the goodwill.

Extension of private company simplification efforts

The current proposal is an extension of the work that led to publication in January 2014 of ASU No. 2014-02, Intangibles — Goodwill and Other (Topic 350): Accounting for Goodwill (a Consensus of the Private Company Council). The 2014 amendments to U.S. GAAP made it easier for private companies merging with or buying other companies to account for the goodwill recorded with the deals. Private companies were given the option to amortize the goodwill for an acquired asset’s useful life up to 10 years. 

The test private businesses have to perform to determine whether the goodwill has lost value was also simplified in 2014. Instead of automatically testing for impairment every year, private companies are required to test only when there’s a triggering event, meaning the company has evidence that the fair value of the acquired business is less than the carrying amount on the balance sheet.

If Proposed ASU No. 2016-230 is approved, it will apply to all companies that report goodwill except for private companies that previously selected the private company alternative for the subsequent measurement of goodwill.

Comments due by July 11

The effective date for the proposed changes will be set after the FASB considers the feedback it receives during the comment period, which ends on July 11. The FASB plans to require the amendments to be applied without adjusting reported amounts from prior periods, or what it calls prospective application.

This is the first proposal under the FASB’s two-phase project on simplifying reporting for goodwill for public companies. The second step is whether to make additional changes to the subsequent accounting for goodwill, including permitting or requiring amortization of goodwill and/or further changes to the impairment testing methodology. We’re atop the latest developments and can help you understand how to report acquired goodwill and other indefinite-lived intangibles. 

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