Basic Understanding of Goodwill Impairment Analysis

Goodwill arises when a company acquires another company and the purchase price associated with that acquisition exceeds the value of the hard assets. So, each year after the transaction, companies need to go through an exercise to evaluate that goodwill. The FASB (Financial Accounting Standards Board) is the apex regulatory body that sets ASC (Accounting Standards Codification for non governmental entities. ASC 350 clearly specifies that goodwill and other intangible assets need to be tested for impairment from time-to-time.

Mergers and acquisitions are increasing these days and it is becoming increasingly important that companies do their goodwill assessments at the right time. The ASC 350 demands that companies have to do an annual assessment of their goodwill and they should mark down the carrying value of the goodwill if there is any impairment. There are basically two stages for the identification and the assessment of goodwill impairment.

These stages are generally conducted at reporting unit levels. In the first step, the assumption made is that goodwill is not impaired because the fair value of reporting unit is greater than the carrying value. In the second step, fair value is allocated to all liabilities and assets of the reporting unit. Impairment is then calculated as the difference between the carrying value and observed fair value.

Who does the goodwill impairment analysis? What expertise is needed to carry out this analysis? How much time does it take for this analysis? These are some answers that stakeholders are seeking in today’s business world. Goodwill impairment analysis is generally done by consulting companies because only such companies have the ability to capture key metrics accurately and in a clear manner. The business valuation teams generally comprise veteran patent lawyers who are completely equipped to assist clients in the goodwill impairment testing processes.

Sadly, there are quite a few companies who are totally unaware of goodwill impairment procedures and they tend to do things the wrong way. Here is an example that will simplify the concept of goodwill impairment. Say Coca Cola bought Pepsi for 60 billion with goodwill of 58 billion. This goodwill is put in the balance sheet of Coca Cola and it stays there. Now, two years down the line, Pepsi sinks in value from 60 billion to two billion, what will happen to the goodwill on the balance sheet of Coca Cola? Is it still valid? The answer is no. Goodwill is the asset that is dependent on the yield of the fair value of the previously acquired asset when it still exceeds its book value. So, if the excess at the time of acquisition was 58 billion, and the current excess is only 20 billion, that Coca Cola has to impair by 38 billion.

If you have not understood this concept even with the aforementioned example, you should not be worried at all. There are thousands of goodwill impairment analysts who can do the analysis for you and submit a complete report of what is currently happening. They will also provide you with the future course of action.