The Financial Accounting Standards Board voted Monday to endorse two accounting standards proposed by the Private Company Council pertaining to accounting for goodwill subsequent to a business combination and for certain types of interest rate swaps in an effort to modify the existing accounting standards for private companies.
The final standards are expected to be issued by the end of the year. The standard for Accounting for Goodwill Subsequent to a Business Combination would permit a private company to subsequently amortize goodwill over a period of ten years, or less under certain circumstances, and to apply a simplified impairment model to goodwill. Goodwill is the residual asset recognized in a business combination after recognizing all other identifiable assets acquired and liabilities assumed.
The standard for Accounting for Certain Receive-Variable, Pay-Fixed Interest Rate Swaps Simplified Hedge Accounting Approach would give private companies, other than financial institutions, the option to use a simplified hedge accounting approach to account for certain types of interest rate swaps that are entered into for the purpose of economically converting variable rate interest payments to fixed-rate payments. The alternative would also extend the exemption from certain fair value disclosures to private companies for which such swaps are their only derivatives.
More information on the two standards can be found on the PCC’s Web site.
The FASB also voted to add a project to its agenda to consider whether the changes to accounting for goodwill also should apply to public companies as well as not-for-profits.
“There is a potential for taking the proposal into the public and not-for-profit arena,” said Greg Forsythe, director of business valuation at Deloitte Financial Advisory Services LLP and leader of Deloitte’s Center of Valuation Excellence. “That’s a significant issue with numerous complexities to it. There are lots of points of view which should be looked into if that were to be explored. That topic led to the FASB deciding that they would do a pre-agenda research project’ on the topic of goodwill accounting for all companies.”
He believes the changes in the goodwill impairment standards will be welcome news to many private companies. “There has been a lot of pressure from the private company arena to try to reduce the cost and complexity of accounting in this and numerous other areas,” said Forsythe. “This is one that can take quite a bit of time and money, and for private companies—a number of whom would never consider going public—it’s of limited use for their financials other than maybe their banks reviewing them. This will be a way for them to maybe still achieve what is useful for the people who do use them but without a lot of time and effort that they may have had to spend up till now.”
Private companies will now essentially have an election option. “In the current goodwill impairment testing literature, it was always referred to as a step 1 and a step 2 test,” Forsythe explained. “In the last couple of years, they also introduced what has been referred to as the “step zero qualitative assessment options.’ Essentially, you could look to qualitative factors if you have a certain profile, and if you don’t have the need to go to the step 1, you can move along with your accounting and not need to do anything until the next time you have to take the test. But if you go down the step 1 route, you need to estimate the fair value of reporting units, and if you then have a potential for impairment, you need to go to the step 2 route, which essentially is doing a hypothetical business combination analysis on the reporting units to help you understand how much goodwill would be written off. That can be a pretty time-consuming process.”
The new standard will streamline the process for private companies. “Essentially, what is being put into play here is that private companies can now amortize goodwill over 10 years or less, as appropriate, when they make an acquisition,” said Forsythe. “In terms of the actual goodwill impairment testing that they had done previously, that now becomes essentially based on a triggering events scenario. They don’t need to do it routinely. They would just amortize the goodwill, but if they have a situation that warrants them really needing to look at it because their profile has changed for the worse, then they would do so. But even there, when they do so, they can now do it in a more simplified fashion, by not drilling into reporting units. If they wish, they can do it at the entity level. So there are two or three layers of easing of what they might need to do. The third piece to that is that if they do find they have a potential impairment, they don’t now go through the step 2 as has historically been the case with this hypothetical business combination. They essentially just take the impairment difference between the fair value of the reporting unit or entity and the carrying value. That last piece is more akin to how it is done under IFRS, where the step 2 is a much simpler process.”
If the new standard is ultimately adopted, as appears likely, it would be essentially for business combinations entered into in the first annual period beginning after Dec. 15, 2014, but private companies can do an early adoption of it. For public companies and not-for-profits, FASB’s pre-agenda research project’ will determine whether it warrants an agenda item.