If the markets in fact valued pooling companies higher, that worked to the advantage of such businesses at the expense of the companies that applied purchase accounting. FASB considered that outcome detrimental to the purchase accounting businesses and, more important, to the capital markets as a whole. The FASB project summary, standards and exposure drafts are available at www.
Under Statement no. Step 1: Financial statement preparers will compare the fair value of the reporting unit to its carrying amount, including goodwill. In this case, the second step follows. Step 2: Financial statement preparers will compare the fair value of goodwill to its carrying amount. If the fair value is less than its carrying amount, goodwill is considered impaired and the company must recognize a loss on the balance sheet.
A company can use a reporting unit one level below the operating segment for impairment testing if components of an operating segment engage in business activities for which discrete financial information is available, have economic characteristics different from the other components of the operating segments and are at the level at which goodwill benefits are realized.
Nonpublic companies that do not report segment information in accordance with Statement no. On August 1, , Shark, Inc. The following is reported on the Guppy Corp. Thus, at the date of acquisition, Shark Inc. According to Shark Inc. Under the new FASB standards, Shark must recognize a goodwill impairment loss during the annual impairment test or during an interim test if that becomes necessary if the fair value of the goodwill turns out to be less than the recorded value.
Accordingly, the fair value of the recorded goodwill may be impaired and an assessment is warranted. To illustrate, consider an insurance company that has three principal lines of business and presents them in financial statements: life insurance, homeowners insurance and automobile insurance.
The company splits the segments into eastern and western regions one level below the operating segments. It recently purchased another entity that underwrote homeowners insurance in New York State. Thus, conceptually, the eastern region of the homeowners insurance segment of the business stands to profit from the acquisition.
Accordingly, the company would assess the goodwill at the level of the eastern region of the homeowners insurance segment. Many finance managers believe that the current price at which their company stock trades does not reflect its fair value. Instead, the stock is either undervalued or occasionally overvalued. Thus, the current stock price may not be a perfect proxy for the value of their company. For conducting an impairment test, CPAs will welcome using stock price as a measure of fair value.
In the insurance company example noted above, the stock value of the entire company is available in the financial press. However, what is the value of the eastern region homeowners insurance business? Companies will use valuation models such as the discounted cash flow model or the residual income model to find out.
Fair value measurements can be difficult and costly and CFOs may need to hire valuation experts to perform them. Companies are not required to perform the annual impairment test at the close of the fiscal year, but they must perform the initial step of the impairment test within the first six months after the beginning of their fiscal year.
Additionally, they can perform the fair value measurement for each reporting unit at any time as long as they use one measurement date consistently from year to year. Companies may choose different measurement dates for various reporting units. The standard also provides for interim testing of goodwill impairment between annual tests when circumstances might reduce the fair value of the reporting unit below its carrying value.
Examples are a market decline, regulatory action, new competition or a loss of key personnel. Financial statement preparers will do the following for interim testing:.
Identify the reporting units affected by the acquisition and recognition of goodwill. Identify the goodwill and other net assets associated with the reporting unit as well as the model and key assumptions to be used to measure the fair value of that reporting unit. When a company purchases a target company, ASC provides comprehensive guidelines on how to calculate the various components of goodwill, including intangible assets such as customer lists, trade names and beneficial leases.
Intangible assets included a wide variety of assets, such as trademarks and trade names, technology, noncompete agreements, contracts, customer relationships and licenses. Equity Method Vs. IAS in the US. Share on Facebook. Pooling of Interests Method The pooling of interests method of accounting for mergers and acquisitions involves consolidating the balance sheets of the two companies into one balance sheet based on book values.
Benefits of Pooling of Interests Method Certain sectors preferred using the pooling of interests method of accounting for business combinations before its discontinuation. Discontinuation of Pooling of Interests Method The pooling of interests method was discontinued in the U.
Two methods, producing different results, at times vastly different, led to challenges in comparing the financial performance of a company that had used the pooling method with a peer that had employed the purchase accounting method in a business combination. The primary reason, and the one that caused the most opposition to changing the methods, was including goodwill in the transaction. The FASB believed that the creation of a goodwill account provided a better understanding of tangible assets versus intangible assets and how they each contributed to a company's profitability and cash flows.
Companies, however, would now have to amortize and expense goodwill over a period of time. As the pooling-of-interests method did not include goodwill, the price above the fair value price, would not have to be paid off or expensed.
This changed under the purchase accounting method, which therefore had a negative impact on earnings. This issue was resolved by the adjustment of using a non-amortized approach by incorporating an impairment test, which would determine if the goodwill was higher than its fair value, and only then would it have to be amortized and expensed.
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