ASU : Goodwill Presented at Mainline Association for Continuing Education at Great Valley, PA on March 19, 2015 by Joel Wagoner, CPA, CMA, CFM Assistant Professor DeSales University

ASU : Goodwill Traditionally, goodwill was amortized for a period of up to 40 years. This predates the Financial Accounting Standards Board. (Accounting Principles Board Opinion 17, 1970.)

ASU : Goodwill Statement of Financial Accounting Standards (SFAS) 142 did away with the amortization of goodwill, instead requiring that goodwill be tested anually for impairment.

ASU : Goodwill The annual testing of goodwill proved problematic (and expensive) for many companies. Accounting Standards Update (ASU) eliminated testing for goodwill in many situations in which it was unlikely goodwill would be impaired.

ASU : Goodwill The two-step impairment process: Step 1: Compare the book value of the acquired company to the fair value of the company. If the book value is greater than the fair value, proceed to Step 2.

ASU : Goodwill Step 2: Determine the implied goodwill of the acquired company. The implied goodwill of the company is the fair value of the company minus the fair value of the net assets (the fair value of the assets minus the fair value of the liabilities) of the acquired company. If the book value of the goodwill of the acquired company is greater than the implied value, the difference is the amount of impairment.

ASU : Goodwill ASU provided “the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount.”

ASU : Goodwill “If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary.”

ASU : Goodwill Now, Accounting Standards Update eliminates testing goodwill for impairment for privately held entities IF the entity amortizes goodwill over a period not greater than ten years.

ASU : Goodwill This alternative treatment is optional.

ASU : Goodwill For a privately held company that elects to amortize goodwill, ten years is the maximum allowable period. A shorter period may be used if the reporting entity “demonstrates that another useful life is more appropriate.”

ASU : Goodwill If a company elects to amortize goodwill, it still must test for impairment “when a triggering event occurs that indicates that the fair value of the entity (or the reporting unit) may be below its carrying amount.”

ASU : Goodwill A “triggering event” is “the event that makes an entity stop and think about impairment.”

ASU : Goodwill Testing for impairment may be at either the entity level or the reporting unit level. A company must choose which when they decide to adopt the ten-year amortization.

ASU : Goodwill “The PCC further simplified goodwill impairment by eliminating step two of the current impairment test.”

ASU : Goodwill If a company adopts the ten-year amortization, when goodwill may be impaired, the company skips the second step of the previous method.

ASU : Goodwill The second step of the two-step process of testing for impairment would require that we determine the fair value of the acquired company.

ASU : Goodwill Instead, the company determines the amount of impairment by subtracting the entity or reporting unit’s fair value from its book value.

ASU : Goodwill Doing so “necessitates performing a hypothetical application of the acquisition method to determine the implied fair value of goodwill after measuring the reporting unit’s identifiable assets and liabilities.”

ASU : Goodwill Although this will not be as “theoretically accurate” as the traditional two-step method, “the PCC concluded that eliminating a costly aspect of the current two-step goodwill impairment test…provides a benefit to private company preparers with minimal reducation in user relevance.”

ASU : Goodwill Does the benefit of determining impairment of goodwill justify the cost (in time and money) of performing this “hypothetical application of the acquisition method”?

ASU : Goodwill There are two noteworthy aspects to this update.

ASU : Goodwill First, we’re back to (in some cases for some companies) amortizing goodwill.

ASU : Goodwill Second, we have a divergence of GAAP between publicly held and privately held companies.

ASU : Goodwill This divergence is part of a trend that we can expect will increase in the future as a result of the establishment of the Private Company Council (PCC).

ASU : Goodwill The PCC was established by the Financial Accounting Foundation in (The FAF is the parent organization of the FASB.)

ASU : Goodwill “The PCC determines alternatives to existing nongovernmental GAAP to address the needs of users of private company financial statements, based on criteria mutually agreed upon by the PCC and the FASB.”

ASU : Goodwill “Before being incorporated into GAAP, PCC recommendations will be subject to a FASB endorsement process.”

ASU : Goodwill “The PCC also serves as the primary advisory body to the FASB on the appropriate treatment for private companies for items under active consideration on the FASB’s technical agenda.”

ASU : Goodwill The goal is to prevent the development of a second set of accounting principles for privately held companies, but instead to develop exceptions to GAAP for such companies.

ASU : Goodwill The FAF is currently inviting input from stakeholders on the effectiveness of the PCC.

ASU : Goodwill Why did the PCC recommend, and why did the FASB endorse, this change?

ASU : Goodwill The PCC “added this issue to its agenda in response to feedback …that the benefits of the current accounting for goodwill do not justify the related costs. “

ASU : Goodwill “[U]sers of private company financial statements further indicated that the current goodwill impairment test provides limited decision-useful information because most users of private company financial statements disregard goodwill and goodwill impairment losses in their analysis of a private company’s financial condition and operating performance.”

ASU : Goodwill “Many users of private company financial statements indicated that they disregard goodwill impairment charges from their quantitative analysis…”

ASU : Goodwill “Preparers and auditors of private company financial statements indicated that the costs and complexities associated with goodwill impairment are not limited to the requirement to perform an annual impairment test …”

ASU : Goodwill In order to test an acquisition for goodwill, it is necessary to determine its fair value, as well as the fair value of the assets and liabilities that were obtained when the acquisition was acquired.

ASU : Goodwill If the operations of the acquisition have been merged with those of the reporting entity, it is necessary to allocate the values of the assets and liabilities among the reporting units of the reporting entity.

ASU : Goodwill Some PCC members feel that amortization is appropriate, perceiving that “acquired goodwill is an asset that is consumed and replaced with internally generated goodwill.”

ASU : Goodwill PCC members who voted for amortizing goodwill did so “because, in their view, amortization (with impairment tests, if necessary) is a better representation of the underlying economics of goodwill than the (then) current impairment-only model.”

ASU : Goodwill The PCC acknowledges “that the cuseful life of goodwill and the pattern in which it diminishes are difficult to predict, yet amortization on such predictions.”

ASU : Goodwill Why ten years? “[G]enerally, a significant portion of the assets and liabilities acquired in a business combination involving private companies would be fully used up or satisfied by the tenth year.”

ASU : Goodwill The PCC considered having the maximum amortization period 15 years to match the federal tax code.

ASU : Goodwill An advantage of 15 years would be that it would eliminate a deferred tax calculation that is necessary if 10 years is used for financial reporting but 15 for tax purposes.

ASU : Goodwill The PCC decided against 15 years as it increases the risk of impairment while being no less arbritrary than 10 years.

ASU : Goodwill Straight-line amortization is required “because of the inherent difficulties in predicting its actual pattern of providing benefits to the entity.”

ASU : Goodwill The PCC “considered but decided against a method would be written off…on the acquisition date.”

ASU : Goodwill Some “stakeholders” preferred doing so because “no cost of subsequent accounting is justifiable if users disregard goodwill and the subsequent impairment/amortization…”

ASU : Goodwill The FASB recently issued ASU , “Business Combinations: Accounting for Identification of Intangible Assets in a Business Combination”, as recommended by the PCC.

ASU : Goodwill ASU provides that privately held companies may “no longer recognize separately from goodwill (1) customer-related intangible assets unless they are capable of being sold or licensed independently from the other assets of the business and (2) noncompetition agreements. “

ASU : Goodwill If a company elects to apply this alternative treatment of intangible assets, they must also apply ASU ’s treatment of amortizing goodwill.

ASU : Goodwill However, applying ASU ’s alternative treatment of goodwill does not require also applying ASU ’s alternative treatment of identifying intangible assets.

ASU : Goodwill The FASB has “recently added a project to its agenda on the subsequent accounting for goodwill for public business entities and not- for-profits because the issues raised by private companies about the subsequent accounting for goodwill also pertain to such entities.”

ASU : Goodwill Sources: Accounting Standards Updates and , Financial Accounting Standards Board (FASB), Norwalk, CT