Question

In: Accounting

Learning Team: Goodwill Discuss with your team the following case study: Client X contacted you for...

Learning Team: Goodwill

Discuss with your team the following case study:

Client X contacted you for clarification and recommendations regarding the instances when goodwill should be adjusted for impairment.

Write a team consensus response of 525 to 700 words to include the following:

Provide detailed rational of why goodwill must be adjusted for impairment.

List the tests for impairment.

Explain the meaning of a non cash impairment charge.

Solutions

Expert Solution

1

A Goodwill Impairment occurs when a company

A) pays more than book value for a set of assets (the difference is the goodwill)

&

B) must later adjust the book value of that goodwill.

Goodwill is an asset, but it does not amortize or depreciate like other assets. Instead, GAAP rules require companies to "test" goodwill every year for impairments.

For example,

Let's assume that Company XYZ purchases Company ABC. The book value of Company ABC's assets is $10 million, but for various good reasons, Company XYZ pays $15 million for Company ABC. Because Company XYZ paid $15 million for $10 million worth of assets, Company XYZ records $5 million of goodwill as an asset on its balance sheet.

After the acquisition, Company ABC's sales fall by 40% over the year because Company XYZ changed its product line, which proved unpopular. Also, a competitor introduced a newer, lighter, faster, and cheaper product. As a result, Company ABC's fair market value falls to $8 million.

A year has now passed, and for Company XYZ, this means comparing the fair value of Company ABC to the book value on XYZ's financial statements. If the fair value of Company ABC is less than the book value (that is, if Company XYZ were to sell Company ABC today, it wouldn't get a price equal to or greater than its recorded value), Company XYZ must make a goodwill impairment.

In this example, Company XYZ would compare Company ABC's current fair market value of $8 million plus the $5 million of goodwill (a total of $13 million) to the $15 million it has recorded as Company ABC's value on its books. The difference between the two is $2 million, and Company XYZ must therefore reduce the goodwill on its books by that amount. The goodwill entry on its balance sheet goes from $5 million to $3 million, and its total assets fall correspondingly.

When a company records a goodwill impairment, it is telling the market that the value of the acquired assets has fallen below what the company generally paid for them.

Goodwill can represent a large amount of a company's net worth, and acquisitions (especially in the age of technology) often involve the purchase of things that by and large are intangible. But overinflating goodwill can mislead investors, and simply amortizing goodwill (which used to be the procedure) can also create artificial values for the asset. To find a more accurate value and therefore provide more meaningful and accurate financial statements, companies must therefore test their goodwill by comparing the actual value of the assets in question to their recorded value and adjusting for the difference every year.

2

An impairment test measures whether a balance sheet item is worth the amount stated on the balance sheet. The balance sheet amount should be reduced if the impairment test indicates a lower value.

Impairment testing can be applied for both commercial (audit) accounts and tax accounts. Different countries, accounting standards and tax jurisdictions may have different rules on what is to be tested, when and how. Many countries have adopted IFRS (international financial reporting standards). For this reason, most of the discussion in this article refers to that set of accounting standards.

Impairment test reporting should include a plain language summary of all approaches and assumptions applied. The reader of the report should be able to replicate all calculations based on the information in the report. Commercial impairment tests are often reviewed by a company’s auditors, who involve valuation specialists in reviewing the impairment tests. These specialists can be expensive and their time is often divided over many projects. Review times can be lengthy. If the reporting is clear, this will minimize time and expense of the audit review.

With impairment testing, the devil is in the details. Common mistakes includes the calculation of Carrying Amount, discount rates and terminal value approaches. Simple mathematical errors are also common. Checks should be built into the valuation model. If an income approach value far exceeds the market approach value, there must be a defendable explanation. Take the time to prepare comprehensive impairment testing documentation. This will reduce time and expense with your company’s auditors and will simplify future impairment tests.

3

Non-cash charges are expenses that can be found in a company's income statement, but they are not accompanied by a cash outflow. These are accounting expenses that can represent meaningful changes to a company's financial standing without affecting short-term capital in any way. Depreciation, amortization, depletion, stock-based compensation and asset impairments are common expenses that reduce earnings but not cash flows.

Investors need to distinguish between cash and non-cash expenses, because they have very different ramifications for financial health and valuation. Non-cash expenses from accrual accounting are different from non-recurring charges related to special events. One-time charges may not reflect a company's actual operations over the period when they are recognized.

Non-cash charges are necessary for companies that use accrual basis accounting. Depreciation, amortization and depletion are expensed throughout the useful life of an asset that was paid for in cash at an earlier date. The company's profits did not fully reflect the cash outlay for the asset at that time, so it must be reflected over a set number of subsequent periods. These charges are made against accounts on the balance sheet, reducing the value of items in that statement. Depreciation is generally associated with property, plant and equipment (PP&E). Amortization reduces intangible assets, such as capitalized development expenses. Depletion reduces the value of natural resource holdings

Non-cash charges can also reflect one-time accounting losses that are driven by changing balance sheet items. Such charges are often the result of changes to accounting policy, corporate restructuring, changing market value of assets or updated assumptions on realizable future cash flows.


Related Solutions

Case study: Client X contacted you for clarification and recommendations regarding the instances when goodwill should...
Case study: Client X contacted you for clarification and recommendations regarding the instances when goodwill should be adjusted for impairment. •Provide detailed rational of why goodwill must be adjusted for impairment. Please include sources
For this Discussion, review the client in the case study within the Learning Resources. Consider symptoms...
For this Discussion, review the client in the case study within the Learning Resources. Consider symptoms or signs presented by the client for a diagnosis. Think about how you, as a future professional in the field, might justify your rationale for diagnosis. Consider what other information you may need for diagnosis on the basis of the DSM diagnostic criteria. Trauma and Stressor Related Disorders FEMALE SPEAKER: Well, I just keep thinking what if something happens? I mean I've always had...
CASE STUDY PROBLEM I:1-50 Rick Cabela, a high-income client, has contacted you for advice regarding two...
CASE STUDY PROBLEM I:1-50 Rick Cabela, a high-income client, has contacted you for advice regarding two new proposed business ventures and other tax planning ideas. Rick already operates a highly successful consulting business that earns approximately $2,000,000 net after expenses, and he reports this amount on his personal income tax return. Below are the details: • Rick is considering the purchase of several apartment buildings for rental purposes. He believes the apartments would generate a tax loss of approximately $100,000...
Overall, your team will study the case study provided and then conduct additional research on the...
Overall, your team will study the case study provided and then conduct additional research on the country of China in order to get information to address the following questions: How big is the Chinese market? What is the real GDP adjusted for Purchasing Power Parity? What is the current state of the economy that you have chosen? Collect the latest available data on nominal GDP, real GDP, per capita real GDP, unemployment rate, inflation rate, interest rates, exchange rate(s), and...
Post a diagnosis of the client in the case study. Then explain your rationale for assigning...
Post a diagnosis of the client in the case study. Then explain your rationale for assigning on the basis of the DSM. Finally, explain whether this person is at risk for suicide and how you might specifically assess them for suicide. Justify your response with client data and the current literature. Depressive, Bipolar Disorders and Suicide Program Transcript [MUSIC PLAYING] FEMALE SPEAKER: I wanted to reconcile. I begged him to come home. I begged him. He was the one that...
Case Study: Investigators contacted the directors of the four nursing homes in the Carrollton area. The...
Case Study: Investigators contacted the directors of the four nursing homes in the Carrollton area. The three nursing homes connected to the public water supply reported substantial numbers of residents with acute gastroenteritis. The nursing home that used a well for their water supply reported no residents with acute gastroenteritis. On the basis of this information, the County Health Department issued a boil-water advisory on March 25. Question 6: What is a boil-water advisory? How would you go about implementing...
In this paper, please discuss the following case study. For you to complete this assignment you...
In this paper, please discuss the following case study. For you to complete this assignment you must: Explain your approach to the problem. Support your approach with references, and execute your approach. Provide an answer to the case study’s questions with a recommendation. This case continues following the new project of the WePROMOTE Company, that you and your partner own. WePROMOTE is in the promotional materials business. The project being considered is to manufacture a very unique case for smartphones....
You are a meeting planner who was just contacted by an out of town client to...
You are a meeting planner who was just contacted by an out of town client to produce and “Indy 500” high roller party for 500 VIPs at the Sheraton Desert Inn. You are purchasing a band for $3,000. You are estimating your racing flag centerpiece cost (material and labor) to be $20 per table (50 tables). You are renting black and white checked scupltchair covers ($4.95) from a local linen company that will install the covers. You are estimating your...
Case Study Team Discussion (Patient Case #5) - Case Study Team 8 From BIOL&242 DE 9772/9774...
Case Study Team Discussion (Patient Case #5) - Case Study Team 8 From BIOL&242 DE 9772/9774 No unread replies.No replies. Below are symptoms of a patient related to the Renal System. Each person needs to answer all of these and then reply substantially to their teammates. As a team you should come to a final conclusion on all 3 questions in regards to the Patient and the symptoms. *Only the people in your group/team can see your discussions. Based on...
In your case study, discuss the following aspects of the real company in the world which...
In your case study, discuss the following aspects of the real company in the world which must have offering bonds. you can chose any company which you like. 1. Provide a brief introduction of the company, including its name, headquarters, products/services offered, and approximate net worth. 2. Explain how the company is doing with respect to the ratios. Consider debt-to-equity, return on equity, current and quick ratio, working capital ratio, price earnings ratio, and the earnings per share. (chap 2)...
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT