ASC 350 is nuanced. Even for the most seasoned accountants, triggering events can present uncertainties.
When does a drop in a company’s trading price necessitate testing? How much of a decline in cash flows raises a red flag?
We can all read the standards. But, in some situations practical guidance can be quite helpful.
The goal of this article:
Hopefully, you will walk away with the knowledge to confidently assess goodwill impairment. We will look at the complexities and equip you with the understanding needed to execute testing when warranted.
When it comes to goodwill impairment testing under ASC 350, determining whether a triggering event has occurred is a critical first step.
As a manager, you need to be vigilant in identifying potential triggering events that could indicate goodwill may be impaired.
Here are some key points to keep in mind:
Macroeconomic conditions like recessions, high inflation, or major industry disruptions can negatively impact business performance and expectations. These should prompt a careful evaluation of goodwill.
Industry shifts such as new technologies, competitive pressures, changes in consumer preferences, or new regulations can also trigger the need for impairment testing.
Cost factors in response to economic and supply chain challenges may indicate your business assumptions are no longer achievable, requiring goodwill reassessment.
A significant or prolonged decline in your company’s share price and equity value can signal lower projected cash flows and fair values used in goodwill measurement.
Internal restructurings, strategy changes, management turnover, or other substantive organizational shifts may alter previous assumptions and require impairment testing.
Other events like loss of major customers, adverse litigation or regulatory actions, or unplanned changes in management strategy need to be evaluated.
Carefully monitoring your business environment is crucial. Move quickly to test goodwill when events suggest carrying values may exceed fair values. Impairment losses are preferable to overstated assets.
Here are some specific steps to take:
Actively track macroeconomic, industry, and internal events for potential goodwill impacts.
Review your business projections and models frequently for changes to key assumptions.
Compare current performance metrics to previous forecasts around revenues, expenses, cash flows.
Document your triggering event conclusions thoroughly in case future scrutiny occurs.
Consult with auditors and advisors when unsure if an event rises to a triggering level.
Move expeditiously to initiate quantitative impairment testing if triggering criteria are met.
Remain vigilant even after testing shows no impairment – conditions can change.
With robust monitoring procedures and willingness to act, you can properly identify ASC 350 triggering events and fulfill your goodwill valuation responsibilities.
Avoiding impairment delays helps protect stakeholders and maintain credibility.
When evaluating goodwill for impairment, companies must assess whether any triggering events have occurred that indicate goodwill may be impaired.
Here are some major examples of actual triggering events:
Carefully monitoring operations, industry trends, macroeconomic factors, and company-specific events is crucial to identifying goodwill impairment triggers in a timely manner. The examples above illustrate major events that have led to goodwill write-downs across different industries and situations.
When a triggering event occurs that may indicate goodwill impairment, careful analysis and testing is required. Follow these steps to ensure ASC 350 compliance:
Perform a qualitative assessment. This assessment encompasses a thorough examination of various key factors contributing to the triggering event. It involves an in-depth analysis of external factors such as shifts in industry and market conditions, including changes in market capitalization, competitive landscape alterations, and regulatory modifications. Concurrently, internal elements demand scrutiny, primarily focusing on the company’s financial health. This includes evaluating trends in revenue, profits, and cash flows, alongside operational aspects like asset quality and potential operational disruptions. The essence of this assessment lies in a balanced, fact-based approach. It requires weighing all evidence, both positive and negative, to form a holistic view. This process should not only rely on current data but also consider historical trends for context. Objective analysis, possibly supplemented by expert consultation, is crucial. The outcome of this qualitative assessment determines whether a more quantitative analysis is needed to ascertain the extent, if any, of goodwill impairment.
Determine your reporting units. This step is fundamental for ASC 350 compliance and involves identifying the specific segments of your business that will be tested for goodwill impairment. The selection of reporting units is typically aligned with how the company’s operations are managed and may correspond to distinct business segments or divisions within the organization. It’s essential to consider the organizational structure, including how resources are allocated and how financial information is reported internally. The reporting units should reflect the level at which goodwill is monitored for internal management purposes. In some cases, this may require a granular breakdown of the business to ensure that each reporting unit is appropriately identified. This identification is not only a compliance requirement but also a strategic step that aids in accurately assessing the potential impairment of goodwill at a level that mirrors the company’s operational realities and financial reporting structure.
Calculate fair value of each reporting unit. This step requires applying both income-based methods like discounted cash flows (DCF), which project future cash flows to their present value, and market-based methods such as comparable company multiples. The DCF approach focuses on the unit’s specific operational forecasts, while market-based methods benchmark against industry peers. It’s crucial to balance these approaches, ensuring that fair value estimates are based on realistic, supportable assumptions and reflect both current market trends and the unit’s future potential. This thorough valuation is vital for accurately determining if and to what extent goodwill is impaired, maintaining the integrity of financial reporting.
Compare fair value to carrying value. After determining the fair value of each unit through methods like discounted cash flows (DCF) and comparable company multiples, this value must be juxtaposed against the unit’s carrying value as recorded on the balance sheet. The carrying value encompasses the total net assets of the unit, inclusive of recorded goodwill. This comparison is critical in identifying whether goodwill is potentially impaired. If the fair value is found to be less than the carrying value, it indicates a likely impairment of goodwill, necessitating further steps to quantify the impairment. This comparison is not merely a numerical exercise but a reflective evaluation that considers the nuanced aspects of both fair value estimation and the components of carrying value. It serves as a key indicator of the financial health and realistic valuation of the company’s segments, ensuring that the financial statements accurately represent the company’s current economic condition.
Recognize and measure impairment. This process is integral to ASC 350 compliance. When the carrying value of a reporting unit exceeds its fair value, it indicates the presence of impairment. The next crucial task is to quantify this impairment. The impairment loss is measured as the difference between the carrying value and the fair value of the reporting unit. This calculated loss directly impacts the financial statements as it leads to a reduction in the goodwill balance on the balance sheet. It’s a significant adjustment that reflects the diminished value of goodwill, aligning the book value more closely with the current economic realities of the reporting unit. The recognition and measurement of impairment are not just about compliance; they are vital for presenting a transparent and realistic view of the company’s financial health, ensuring stakeholders have accurate and up-to-date information for decision-making.
Perform sensitivity analysis. This analysis involves varying key assumptions used in the fair value calculations to gauge their impact on the results. By altering factors such as discount rates, growth projections, and market conditions, companies can assess how changes in these assumptions could affect the estimated fair value of their reporting units. This step is crucial for understanding the robustness and reliability of the fair value estimates. Companies should consider multiple scenarios, ranging from optimistic to pessimistic, to ensure a comprehensive understanding of potential risks and vulnerabilities. This proactive approach allows for a more informed assessment of the likelihood and extent of goodwill impairment under different circumstances. Employing prudent judgment in this analysis ensures that the company is prepared for various market conditions and internal changes, thereby enhancing the accuracy and credibility of the financial statements. Sensitivity analysis not only serves as a tool for internal decision-making but also provides stakeholders with insight into the company’s risk management and valuation processes.
Disclose impairment loss properly. Once an impairment loss is recognized and measured, it’s essential to transparently and accurately disclose this information in the company’s financial statements. This disclosure should be made prominently in the footnotes of the financial statements. It is important to include detailed information about the impairment loss, such as the amount of the loss, the reporting unit it relates to, and the date of recognition. Additionally, the company must clearly outline the methods and key assumptions used in calculating the fair value of the reporting units, including the basis for selecting these methods and any significant changes from previous estimates. This level of detail is crucial as it provides stakeholders with a comprehensive understanding of the factors leading to the impairment and the company’s approach to valuing its reporting units. Proper disclosure not only meets compliance standards but also fosters transparency and trust among investors, creditors, and other users of the financial statements, ensuring they are well-informed about the company’s financial health and risk exposures.
Monitor conditions continually. This step remains crucial even after the initial testing and recognition of any impairment losses. Companies must remain vigilant, consistently observing both internal and external factors that could indicate further triggering events or changes affecting goodwill valuation. This involves keeping a close eye on market dynamics, industry trends, operational changes, and financial performance, as these elements can rapidly evolve and impact the value of goodwill. Regular monitoring ensures that any new or emerging signs of potential impairment are promptly identified, allowing for timely and proactive measures. This might necessitate additional interim impairment testing, especially if significant changes occur before the next annual impairment test. Staying attuned to these changes not only aids in maintaining ASC 350 compliance but also ensures that the company’s financial statements accurately reflect its current financial status. By continuously assessing the factors influencing goodwill, a company can better manage its financial health and make informed decisions, maintaining transparency and integrity in its financial reporting.
Document analysis thoroughly. This step involves meticulously recording every aspect of the process, starting from the initial qualitative assessment through to the final recognition of any impairment losses. Detailed documentation should include the rationale behind the identification of triggering events, the methods and assumptions used in the valuation of reporting units, and the calculations involved in determining fair values. This also encompasses the comparison of fair values to carrying values, the recognition and measurement of any impairment losses, and the outcomes of sensitivity analyses. Such comprehensive documentation is crucial not only for internal record-keeping and future reference but also for demonstrating the rigor and thoroughness of the impairment testing process to auditors, regulators, and other stakeholders. It serves as a foundation for the disclosures made in financial statements and provides a clear trail of evidence supporting the company’s decisions and conclusions regarding goodwill impairment. Maintaining this level of detailed documentation ensures that the company can confidently defend its impairment testing process and results, while also providing valuable insights for future assessments and decision-making processes.
Consult experienced professionals. Consulting experienced professionals, particularly independent valuation experts, is a crucial aspect of the goodwill impairment testing process, especially in complex situations. Engaging these specialists provides numerous benefits, enhancing the accuracy, credibility, and compliance of the impairment testing. Valuation experts bring specialized knowledge and experience in applying sophisticated valuation techniques, such as discounted cash flows and market-based approaches, which are essential for determining the fair value of reporting units accurately. Their expertise ensures that the valuation is based on realistic, supportable assumptions and reflects current market trends and future potentials.
Independent experts offer an objective perspective, free from potential internal biases, which is critical for maintaining the integrity of the valuation process. Their involvement adds a layer of credibility to the impairment testing, which can be particularly valuable in the eyes of auditors, regulators, and investors. Moreover, these professionals stay abreast of the latest accounting standards and regulatory requirements, ensuring that the company’s impairment testing process remains compliant with ASC 350 and other relevant guidelines.
By engaging valuation specialists, companies can also mitigate the risk of errors or oversights in the valuation process, which could lead to significant financial or reputational repercussions. This external expertise not only aids in the thorough and accurate execution of the impairment test but also provides valuable insights for strategic decision-making. It allows the company’s management to focus on core business activities, confident in the knowledge that the technical and complex aspects of goodwill impairment testing are being handled by experts. This collaboration can significantly enhance the quality and reliability of the company’s financial reporting, fostering trust among stakeholders and ensuring informed decision-making.
Following these guidelines demonstrates rigorous analysis aligned with ASC 350 requirements. With care and prudence, companies can properly identify, measure and disclose goodwill impairment to provide investors transparency into this critical intangible asset.
When performing goodwill impairment testing under ASC 350, thoroughly documenting your process is crucial. Here are some tips to ensure your documentation is complete:
Keep detailed notes and save all calculations in an organized file. Document the key assumptions, estimates, and judgments made at each step. Retain copies of all source materials used, such as budget forecasts, analyst reports, macroeconomic data, and industry studies.
Explain the rationale for selecting the valuation approaches and methods used. Justify why certain methods were chosen over others given the specific facts and circumstances.
Describe how reporting units were determined and provide the logic for any changes from the prior year. Include details on operating segment composition and how goodwill was assigned to each reporting unit.
Provide a step-by-step walkthrough of how fair values were calculated for each reporting unit. Show the inputs, formulas, and resulting outputs for the discounted cash flow model and/or other methods applied.
Summarize the results of Step 1 testing and compare the fair value of each reporting unit to its carrying amount. Highlight any reporting units that failed the Step 1 test.
For any reporting units that failed Step 1, include a detailed Step 2 analysis. Explain how the implied fair value of goodwill was determined and compared to the carrying amount of goodwill for that reporting unit.
Disclose all key assumptions used in the Step 2 valuation, including projected cash flows, long-term growth rates, and discount rates. Provide support for the reasonableness of estimates made.
Note any triggering events that occurred during the year which prompted an interim impairment review. Describe how the analysis was performed outside of the annual testing period.
If an impairment loss was recognized, show the calculation of the implied fair value of goodwill and amount of the impairment charge taken.
Specify who performed or reviewed the testing. Have the documentation reviewed and signed off by appropriate levels of management.
Thorough documentation provides critical audit evidence to support the resulting impairment charges or lack thereof. Maintaining detailed records demonstrates rigor in applying ASC 350 guidance. With careful planning and organization, the impairment testing process can be seamlessly documented.
You now have a practical guide for conducting goodwill impairment testing under ASC 350. By understanding triggering events, walking through the two-step test, involving the right experts, and documenting your work, you can fulfill your responsibilities with confidence. While the process is complex, breaking it down into clear steps makes it more manageable. With the knowledge you’ve gained, you can approach your next goodwill impairment test calmly and methodically. Stay focused on the requirements, follow best practices, and trust in your own judgment. You are now equipped to steer your company smoothly through this important process.
At Eton Venture Services, we are dedicated to helping you accurately report the value of your intangible assets through rigorous and defensible goodwill impairment testing. Don’t risk your company’s critical financial reporting compliance efforts with software-driven “form” models or inexperienced teams. Trust Eton’s team of experts to provide you with precise, compliant, and independent valuations that safeguard your interests and ensure compliance while maximizing tax advantages. Join the industry leaders who have already benefited from our exceptional client service and valuation expertise. Let Eton Venture Services guide you through the complexities of goodwill impairment testing and financial reporting compliance during uncertainies around triggering events. Contact Eton Venture Services today.
When it comes to triggering events for goodwill impairment testing under ASC 350, there are often many questions. As a thoughtful manager, you want to make sure you have considered all angles. Let’s walk through some frequently asked questions:
Some common triggering events include:
A significant adverse change in the business climate
A substantial decline in actual or projected revenue or earnings compared to what was expected
Significant negative industry or economic trends
Increased competition
Loss of key personnel
A decline in the market value or trading price of your company’s stock
Essentially, any event or change in circumstances that would significantly impact the key assumptions in your last impairment test should trigger an interim test.
There is no bright line threshold for a decline in a company’s trading price. You need to use judgment based on the magnitude and duration of the decline as well as the reason behind it. A decline over multiple quarters or a steep 30-40% drop could signal impairment.
Not always. You first need to understand the reason behind poor performance. Losses due to planned expansion or acquisition costs may not indicate impairment on their own. However, sustained underperformance versus expectations does suggest the need for interim testing.
You should still perform an interim test if the event was significant, rather than waiting for the annual test. The key is acting timely when impairment indicators arise.
Rising interest rates impact discount rates used in estimating fair value. Significant rate increases could reduce headroom between fair value and carrying value, warranting interim testing. Also consider refinancing risks for leveraged companies.
If strategy changes result in less emphasis on or lower prospects for a segment, interim testing should be performed for the relevant reporting unit. Exiting or restructuring businesses also requires an evaluation.
If strategy changes result in less emphasis on or lower prospects for a segment, interim testing should be performed for the relevant reporting unit. Exiting or restructuring businesses also requires an evaluation.Under ASC 350, you need to consider all available evidence, including external factors. While internal projections are important, market data provides critical corroboration. Engage valuation experts as appropriate.
Schedule a free consultation meeting to discuss your valuation needs.
Chris co-founded Eton Venture Services in 2010 to provide mission-critical valuations to venture-based companies. He works closely with each client’s leadership team, board of directors, internal / external counsel, and independent auditor to develop detailed financial models and create accurate, audit-proof valuations.