How do you measure and report goodwill impairment in a business combination?

1 The impairment test

The impairment test is the process of comparing the carrying amount of a reporting unit or a cash-generating unit (CGU) that includes goodwill with its recoverable amount. The recoverable amount is the higher of the fair value less costs of disposal and the value in use of the unit. The fair value less costs of disposal is the amount that could be obtained from selling the unit in an orderly transaction. The value in use is the present value of the future cash flows expected from the unit. If the carrying amount exceeds the recoverable amount, then goodwill is impaired and an impairment loss must be recognized.

2 The impairment loss

The impairment loss is the amount by which the carrying amount of goodwill exceeds its implied fair value. The implied fair value of goodwill is the excess of the fair value of the unit over the fair value of its identifiable net assets. The impairment loss reduces the carrying amount of goodwill and the unit on the balance sheet. It also reduces the income or increases the loss of the unit on the income statement. The impairment loss cannot be reversed in subsequent periods, even if the recoverable amount of the unit increases.

3 The frequency and timing

The frequency and timing of the impairment test depend on the accounting standards that apply to the entity. Under US GAAP, the impairment test must be performed at least annually, or more frequently if there are indicators of impairment, such as declines in revenue, market share, or profitability. The test can be performed at any time during the fiscal year, as long as it is consistent from year to year. Under IFRS, the impairment test must be performed annually at the same time every year, or more frequently if there are indicators of impairment.

4 The qualitative assessment

The qualitative assessment is an optional step that allows an entity to assess whether it is more likely than not that goodwill is impaired, without performing the quantitative test. This can save time and costs, especially if there are no significant changes in the business environment or the unit's performance. The qualitative assessment involves evaluating various factors, such as macroeconomic conditions, industry trends, competitive advantages, customer relationships, and legal or regulatory changes. If the qualitative assessment indicates that goodwill is not impaired, then no further testing is required. However, if the qualitative assessment indicates that goodwill may be impaired, then the quantitative test must be performed.

5 The reporting and disclosure

The reporting and disclosure of goodwill impairment involve presenting the impairment loss and its impact on the financial statements, as well as providing additional information about the assumptions and methods used in the impairment test. Under US GAAP, the impairment loss must be reported as a separate line item on the income statement, and the carrying amount of goodwill and the unit must be adjusted on the balance sheet. Under IFRS, the impairment loss must be allocated to reduce the carrying amount of goodwill first, and then to other assets of the unit on a pro rata basis. The impairment loss must be reported as part of operating expenses on the income statement, and the carrying amount of goodwill and the unit must be adjusted on the balance sheet. Both US GAAP and IFRS require disclosure of the recoverable amount, the fair value hierarchy, the key assumptions, and the sensitivity analysis of the impairment test.

6 The best practices

The best practices for measuring and reporting goodwill impairment involve applying a consistent and reliable approach, using appropriate valuation techniques and inputs, and documenting the process and results. It is important to identify and monitor the indicators of impairment, to perform the qualitative assessment if applicable, and to conduct the quantitative test with due care and diligence. It is also important to use professional judgment and estimates based on reasonable and supportable assumptions, to reflect the current market conditions and expectations, and to disclose the relevant information in a clear and transparent manner.

7 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?