On July 27, 2012, the Financial Accounting Standards Board (FASB) released Accounting Standards Update (ASU) 2012-02, Intangibles—Goodwill and Other (Topic 350), “Testing Indefinite-Lived Intangible Assets for Impairment.” ASU 2012-02 employs a qualitative concept that is similar to the one developed in ASU 2011-08, Intangibles—Goodwill and Other (Topic 350), “Testing Goodwill for Impairment,” which was issued on September 15, 2011. While the FASB’s issuance of these standards gives companies an option when testing indefinite-lived assets and goodwill for impairment, does it really make impairment testing easier?
A separate thought is that issuance of these standards does not advance the effort to converge U.S. Generally Accepted Accounting Principles (U.S. GAAP) with the accounting principles issued by the International Accounting Standards Board (IASB) in the form of International Financial Reporting Standards (IFRS).
Prior to the FASB’s issuance of the accounting principles in ASU 2011-08 and ASU 2012-02, a company following U.S. GAAP was required, at minimum on an annual basis, to apply a quantitative impairment test to goodwill and any indefinite-lived assets that it may have on its balance sheet. Such assets are typically created through a merger or acquisition but sometimes also result from other transactions such as a cash purchase of the asset from a third-party seller.
The FASB may have developed the qualitative tests in part to provide relief to private companies that must test long-lived assets for impairment, but the revised rules apply to both private and public companies. Some observers note that the FASB is trying to be more responsive to the needs of private company financial reporting, due in part to the recent effort to create a separate standard-setter for private companies, a topic discussed in my earlier blog article, “Baby GAAP.”
How the Indefinite-Lived Asset Impairment Test Works
Assume ABC Company has an asset on its books relating to a brand name that was identified in a merger and acquisition that occurred in 2002. At the time, ABC Company concluded that this asset was indefinite-lived and therefore not subject to periodic amortization that is required of finite-lived assets. Rather, ABC Company was required to assess, at least on an annual basis, whether this asset was impaired and whether any other capitalized indefinite-lived assets it may have were impaired, giving rise to impairment charges against earnings. ABC Company, like many other companies that have been involved in mergers and acquisitions over the years, may have several indefinite-lived assets on its balance sheet.
In the case of this brand name asset, ABC Company was required to determine its estimated fair value. This meant that ABC Company probably would have developed a valuation approach that may have required the hiring of a third-party valuation expert to estimate the value of the brand asset. This effort may have been time-consuming, costly, and even frustrating for ABC Company management even though they seriously believed no material facts had changed since 2002 that would give rise to this asset being considered impaired. However, to comply with U.S. accounting principles and to keep the company’s auditors happy, the fair value test had to be performed. And keep in mind, this test had to be performed on each asset that was considered “indefinite-lived.” For companies that have completed many mergers or acquisitions over the years, the list of such assets could be long.
Now, the FASB is permitting companies to sidestep the quantitative test when testing indefinite-lived assets if the asset “passes” the impairment test using qualitative criteria—that is, the asset is not impaired based on a more-likely-than-not evaluation (a likelihood of greater than 50%). In the ABC Company example, management would assess all the relevant events and circumstances that could affect the fair value of the brand asset. If ABC Company management concluded that based on its assessment the asset was not impaired because the likelihood was greater than 50% that it was not impaired, ABC Company would not have to complete the quantitative test. The FASB identified the following six factors that companies should consider when making their qualitative assessment:
Cost factors that could affect the value of the asset;
Financial performance of the business associated with the specific asset;
Legal, regulatory, contractual, political, business, or other factors that could affect the asset;
Other relevant company-specific events such as changes in management or business strategy;
Industry and market considerations such as a deterioration in the environment in which the company operates; and
Macroeconomic conditions such as deterioration in general economic conditions.
The FASB notes that the above six items are not all inclusive. Rather, companies should look at other “relevant events and circumstances that could affect the significant inputs used to determine the fair value ….”
Will the Change Really Benefit Companies?
While management at companies with indefinite-lived assets may initially be happy with having the qualitative option, the practical reality may be different. All public companies must be audited, and many private companies need to be audited as well. A company may decide that it is easier to continue with the quantitative tests it has been using over the years rather than trying to convince its auditor that impairment does not exist because it performed and passed a qualitative assessment instead.
In other words, for a company that is already following the quantitative test procedures, the required documentation and effort to support the qualitative evaluation may not be significantly less.
Convergence with IFRS
As discussed in my prior blog articles, there has been considerable discussion of converging U.S. accounting principles with those in IFRS. Specifically, the SEC “punted” on its evaluation of whether companies should adopt IFRS, and the two standard setters, the FASB and the IASB, hit a snag on convergence in the area of insurance accounting.
The FASB’s concept of qualitative assessment of impairment is not permitted under IFRS. The FASB has acknowledged that fact but states that the effort to converge should be approached by more broadly addressing impairment and other differences that exist between the two sets of accounting principles.
About the Author
Ron Pippin is an experienced CPA based in Wheaton, IL. His 40 plus year career includes being an audit partner in Arthur Andersen, a member of Andersen’s Professional Standards Group (“national office”) in Chicago, the Director of Financial Reporting for a Fortune 50 company and most recently, the editorial director of CCH’s Accounting Research Manager. Currently, Ron does independent writing and analysis as well as accounting consultation on a variety of topics.