Goodwill Impairment

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Goodwill Impairment

Overview

Goodwill impairment occurs when the recorded (carrying) value of goodwill on a company’s balance sheet exceeds its fair value. When acquired assets and liabilities no longer generate the expected future cash flows, the excess purchase price recorded as goodwill may be overstated and must be written down. The resulting charge is recognized as an impairment loss on the income statement.

What is goodwill?

Goodwill is an intangible asset that arises when one company acquires another and pays more than the net fair value of the identifiable assets and liabilities. It often reflects factors such as brand strength, customer relationships, proprietary technology, and workforce quality—intangibles that are hard to quantify separately.

How impairment is measured

  • Compare the carrying amount of a reporting unit (which includes goodwill) to its fair value.
  • If carrying amount > fair value, an impairment exists.
  • The impairment loss equals the amount by which carrying amount exceeds fair value, limited to the carrying amount of goodwill.
  • The loss is recorded on the income statement and goodwill is reduced on the balance sheet.

Accounting rules for measuring goodwill impairment were simplified by FASB’s Accounting Standards Update (ASU) 2017-04, which streamlined the testing process.

When to test and common triggers

  • U.S. GAAP requires at least an annual test for goodwill at the reporting-unit level.
  • Companies must also test more frequently when a triggering event indicates potential impairment. Common triggers include:
  • Declining economic conditions or market demand
  • Increased competition or loss of major customers
  • Adverse regulatory or legal developments
  • Loss of key personnel or significant operational setbacks

A reporting unit is the level at which management evaluates performance (e.g., a business line, subsidiary, or geographic segment).

Accounting treatment and financial statement impact

  • Impairment is recorded as an expense (loss) on the income statement, reducing net income for the period.
  • Goodwill on the balance sheet is written down by the amount of the impairment.
  • Goodwill is no longer routinely amortized; instead it is tested for impairment under current standards.

Notable example

A landmark goodwill impairment was the $54.2 billion charge taken by AOL Time Warner in 2002 following the merger, one of the largest goodwill write-downs in history.

Key takeaways

  • Goodwill represents the excess paid in an acquisition over identifiable net assets.
  • Impairment is recorded when the fair value of the reporting unit (including goodwill) falls below its carrying amount.
  • U.S. GAAP requires at least annual impairment testing, and more often if triggering events occur.
  • Impairment reduces both income (through an expense) and the carrying value of goodwill on the balance sheet.

Brief FAQs

  • How often must goodwill be tested? At minimum annually, and whenever events or changes in circumstances indicate potential impairment.
  • How is an impairment reported? As an impairment loss on the income statement, with a corresponding reduction in goodwill on the balance sheet.