The following article is adapted and reprinted from the M&A Tax Report, Vol. 9, No. 11, June 2001, Panel Publishers, New York, NY.

FASB'S FINAL RULES

By Robert W. Wood

The FASB met April 11, 2001 to begin reconsideration of the revised exposure draft, "Business Combinations and Intangible Assets' Accounting for Goodwill." As The M&A Tax Report readers know, the debate (in fact, maybe we should call it a harangue) over how goodwill and intangible assets will be treated in the business combinations statement has been one of the more constantly controversial subjects in the FASB's broad jurisdiction. The FASB's business combination project has received numerous commentary from lawyers, CPA firms, financial institutions, and even academicians.

Just as an illustration, roughly 185 comment letters were sent in response to the February 2001 exposure draft. The FASB staff had to analyze those letters and make suggestions and recommendations to the Board at the April 11 FASB meeting. Summaries of those comment letters are available on the FASB's website, www.FASB.org.

The April 11 meeting focused on a variety of issues, most of which are still quite significant:

1. The accounting for negative goodwill, and related transition provisions;

2. The criteria for recognizing acquired intangible assets separately from goodwill (one of the real $64,000 questions);

3. Required documentation at the date the business combination is completed;

4. Required disclosures related to goodwill in the period in which a business combination is completed;

5. Nonamortization of goodwill;

6. Level of impairment testing;

7. Exceptions to the reporting unit definition; and

8. The goodwill impairment test.

Goodwill Impairment?

Let's take a look at this last item for a moment simply because it has been somewhat controversial and did generate numerous comments. The 2001 exposure draft proposed that a goodwill impairment law should be recognized if the implied fair market value of a reporting unit's goodwill is less than its carrying amount. The implied fair market value of goodwill would be determined by subtracting the fair market value (with some exceptions) of the recognized net assets of the reporting unit, excluding goodwill from the fair value of the reporting unit. The impairment loss would be measured as the amount by which the carrying amount of goodwill exceeds its implied fair value.

One fundamental question is whether this supposed impairment test would adequately capture a decline in the value of goodwill. Most of the commentary letters stated that they did not find the proposed impairment test to be workable, primarily because of the requirement to determine the fair value of recognized net assets.

In the face of various criticism, the FASB has considered different approaches to testing goodwill for impairment.

Lower-of-Cost-or-Market

The lower-of-cost-or-market (or "LOCOM") approach compares the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value is less than the carrying amount, then goodwill would be considered impaired. The impairment loss would be measured as the excess of the carrying amount of the reporting unit over its face value.

Two-Step Approach

This LOCOM two-step approach would begin with a comparison of the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the unit is less than its carrying amount, goodwill would be considered impaired, and the impairment loss would be measured as the excess of recorded goodwill over its implied fair value, calculated by considering the fair value of the recognized net assets (as in the 2001 exposure draft).

Purchase Price Allocation Two-Step Approach

Once again, this approach begins with a comparison of the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the unit is less than its carrying amount, goodwill would be considered impaired. The impairment loss would be measured as the excess of recorded goodwill over its implied fair value. The implied fair value of the reporting units' goodwill would be calculated in a manner similar to the purchase price allocation (contained in FASB Opinion 16). Thus, the entity would allocate the fair value of the reporting unit to all of the assets and liabilities of that unit, including any unrecognized intangible assets.

Modified Exposure Draft Approach

Finally, this approach would compare the implied fair value of the reporting units' goodwill with its carrying amount. The implied fair value of the goodwill would be calculated by subtracting the book value of the tangible net assets, and the fair value of the recognized intangible assets, from the fair value of the reporting unit. If the implied fair value of the goodwill is less than its carrying amount, goodwill would be considered impaired. The impairment loss would be measured as the excess of recorded goodwill over its implied fair value.

* * * * *

Initially, the staff of the FASB expressed tentative interest in this last approach. However, the board ultimately settled on the two-step purchase price allocation approach (the third choice listed above). Time will tell exactly what will happen on this important goodwill/intangible problem.

FASB's Final Rules, Vol. 9, No. 11, The M&A Tax Report (June 2001), p. 5.