Mark Zyla
Mark Zyla

The New Qualitative Assessments in Goodwill Impairment Testing May Not Be Simple

Here’s why.

February 2, 2012
by Mark Zyla, CPA, ABV

Goodwill is recognized as an asset on financial statements that results from a business combination. The amount of goodwill that is recognized is the fair value (FV) of the entity that is acquired, less the net of the recognized amounts of the identifiable assets acquired in the combination and of the liabilities assumed. Goodwill is not amortized, but must be tested for impairment under FASB ASC 350, Intangibles — Goodwill and Other at least annually, or more frequently if certain events occur.

The testing of goodwill for impairment can be costly and complex, particularly for privately held entities, many of which often question the need for the recognition of goodwill on the financial statements in the first place. To address these concerns, the Financial Accounting Standards Board (FASB) recently issued Accounting Standards Update (ASU) 2011-08, Testing Goodwill for Impairment. Under the new ASU, FASB ASC 350, Intangibles — Goodwill and Other, an entity is permitted to qualitatively assess whether the fair value of a reporting unit is less than its carrying amount. The qualitative assessment is sometimes referred to as “step zero.”

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Based on the qualitative assessments, if the entity determines that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, then the entity must perform step one of the goodwill impairment test. However, the entity still has the option to forgo the qualitative assessment and simply perform the step one test. Under the new assessment test, if the entity determines that events and circumstances indicate that its fair value is not less than its carrying amount using a more likely than not criteria (greater than 50 percent), then the original step one test is not required.

Examples of FASB-provided events and circumstances in the new ASU, which would be helpful with the assessment, are:

  • General macroeconomic conditions:
    • Changes in accessing capital in general economic conditions;
    • Limitations accessing capital;
    • Fluctuations in foreign exchange rates;
    • Other developments in equity and credit markets.
  • Industry and market considerations:
    • Deterioration in the operating environment;
    • Increased competition;
    • A decline in market-dependent multiples;
    • A change in the market for the entity’s products or services;
    • A regulatory or political development.
  • Cost factors that have a negative effect on earnings:
    • Increases in raw materials, labor or other costs.
  • Decline in overall financial performance:
    • Negative or declining cash flows;
    • A decline in actual or planned revenues or earnings.
  • Entity-specific events:
    • Changes in management or key personnel;
    • Changes in strategy or customers;
    • Bankruptcy or litigation.
  • Events affecting a reporting unit:
    • A change in the carrying amount of net assets (write offs);
    • Plans to sell or dispose of a portion or all of a reporting unit;
    • Testing for recoverability of a significant asset group within a reporting unit;
    • Recognition of goodwill impairment in a component of the reporting unit.
  • A sustained decrease in share price, both absolutely and relative to peers

These examples provided in ASU 2011-08 replace the previous qualitative factors in FASB ASC 350 that entities must currently consider between annual impairment tests and when the carrying amount of a reporting unit is zero or negative. The qualitative factors outlined in ASU 2011-08 are not intended to be all-inclusive. Each factor is not intended to represent stand-alone event or circumstance that would require the entity to perform the first step of the impairment test, but should be taken in consideration with other factors. Also, an entity should consider positive and mitigating events and circumstances that may affect its conclusion.
The ability to utilize qualitative assessments however may not be quite as simple as is first appears. There are a number of issues that an entity must consider when utilizing the qualitative assessments under “step zero.”

  • How does one audit “qualitative” factors? Management’s assertions about the qualitative assessments still have to be audited. Management may find that their outside auditor may require some quantitative analysis to support the qualitative factors.
  • The starting points in assessing the impact of qualitative factors are the most recent fair value measurement of the reporting unit and the level of “cushion” as of that measurement between fair value and carrying amount. As time passes, and the closer fair value is to carrying amount, the qualitative analysis may not provide persuasive audit evidence. Under those circumstances, management may want to simply perform the “step one” test, rather than use qualitative assessments. The FASB provided qualitative assessment for circumstances in which it is highly unlikely that goodwill is impaired.
  • In performing the qualitative assessment, it will be helpful to consider the “value drivers” from the previous fair value measurements. For example, if the previous indication of the fair value of the reporting unit was a discounted cash-flow analysis from a “step one” analysis prepared the previous year, it would be important to consider the underlying factors that supported the growth in cash flows, as well as the factors that comprised the cost of capital used as the discount rate. The quantitative assessment should focus on how these factors strengthened or weakened in the subsequent time periods.
  • Management will still need to document their analysis supporting the qualitative analysis; accounting firms are just now providing some guidance as to their expectations of the documentation.
  • Management can still retain the services of outside valuation experts to assist them with the analysis of the qualitative assessments. Even with assistance of an outside expert, the time and fees would still make the qualitative assessment a less costly approach than a step one impairment test.


The qualitative assessment analysis can make testing goodwill for impairment simpler for those circumstances where it is highly unlikely that goodwill is impaired. However, performing the assessments and documenting conclusions may be more complex than what many preparers of financial information initially thought.

In a concurrent proposal, the FASB introduced an exposure draft of a proposed ASU on January 25 that would extend the qualitative assessment to indefinite lived intangible assets. This proposed ASU will likely have similar aspects as the qualitative assessments for goodwill testing.

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Mark L. Zyla, CPA, ABV, CFA, ASA is managing director of Acuitas, Inc., a valuation and litigation consultancy firm located in Atlanta, Georgia. He is chairman of the AICPA’s Fair Value Conference Committee and provides a workshop for the AICPA on Fair Value Measurements.