Accounting related to acquisitions is getting easier – and often cheaper – thanks to new rules that no longer require firms to make annual calculations related to the value of the acquired business.
Regulators are giving private companies a break by eliminating requirements that they calculate annually the value of goodwill related to acquisitions.
According to Generally Accepted Accounting Principles, goodwill is defined as the difference between the price paid to acquire a company and that firm’s fair market value.
Most acquisitions include goodwill, since a firm’s valuation typically includes more than assets and liabilities. The value for its brand and business typically ends up on the books as an intangible asset known as goodwill.
Until 2014, companies had to evaluate the value of goodwill annually, leading to a costly accounting ritual known as a goodwill impairment test.
But the Private Company Council, created by the Financial Accounting Standards Board to ease requirements on private firms, recommended no longer mandating these tests.
FASB, which sets accounting standards in the United States, adopted that proposal last year, letting private firms instead choose to depreciate goodwill at a steady rate for up to a decade.
“This is good news for private companies,” Charles Abraham, a partner at WeiserMazars, said. “I think this makes the life of a private company easier.”
The new approach means private firms must examine goodwill only once – during an acquisition.
It will mean lower costs for firms and less work for valuation consultants – frequently accountants.
Keith Peterka, a partner at Manhattan-based Marks Paneth, said that simply calculating goodwill each year is expensive.
“When you do an impairment test, there’s a cost associated with that,” he said.
The change is part of an effort to create two classes of accounting rules: for publicly traded and private firms.
The Securities and Exchange Commission imposes its own regulations on publicly traded firms, but accounting rules traditionally have been largely the same for both groups.
Louis Biscotti, a partner at WeiserMazars, said public companies “have a higher level of reporting.” But accounting has been largely one size fits all, even though many private firms are smaller than public counterparts.
The latest change is part of an ongoing transformation as the accounting industry figures out how to account for goodwill.
The Accounting Principles Board in 1970 mandated that goodwill be amortized over an asset’s estimated useful life, up to 40 years.
FASB in 2001 began requiring firms to test goodwill annually, resulting in added costs as the economy deteriorated.
Then in 2011, FASB eased requirements, letting firms do a “qualitative” test to see whether goodwill had changed before doing a full valuation.
But accountants and executives argued that even if testing provides some insight into a business, the cost far exceeds the benefit.
FASB also concluded that banks and investors paid little if any attention to changes in these valuations.
The users of financial statements instead focus on revenue and income trends, rather than an abstract value attached to goodwill.
Under the new rules, private companies have the right to adopt the new standard or stick with the old method. Publicly traded firms still have to play by the old rules.
“A company that plans to go public probably shouldn’t adopt these provisions,” said Mike McMurtry, a partner at EisnerAmper. “Then they’ll have to reverse them.”
By creating two standards for public and private companies, the new regulations could lead to new issues.
“If you take private and public company financials, you’ll see differences,” McMurtry said. “There were always some differences, but you’ll see more than before.”
The Private Company Council recommended and FASB approved another change in accounting related to acquisitions: Firms as of 2015 no longer have to account for the value of customer lists separately during acquisitions. Lists and other customer-related intangibles instead can be included as part of goodwill.
“Almost every acquisition has customer-related intangibles,” Peterka said. “They said you can include customer-related intangibles in the goodwill number. It’s a reduction in the complexity for private companies.”
Although for now the changes only apply to private companies, public companies soon could follow suit.
FASB has begun looking at possible changes to calculating goodwill at public companies and nonprofits.
“It may have an implication on all companies,” McMurtry said.