Pulling the Trigger: Interim Goodwill Impairment Testing

Most financial professionals understand that goodwill impairment testing is typically performed annually. However, ASC 350 also prescribes that interim goodwill tests may be necessary in the case of certain “triggering” events. For public companies, perhaps the most common triggering event is a decline in stock price, but a variety of other factors may constitute a triggering event as described in ASC 350 including the following:

• Changes in the macroeconomic environment, including fluctuations in exchanges rates and the tightening of credit markets
• Changes within the relevant industry or industries such as decreases in market multiples
• Cost factor considerations
• Poor financial performance, negative cash flows, significant short falls from budgeted or projected performance
• Entity-specific events (changes in management, adverse litigation or regulatory events)
• Changes in the carrying amount of assets at the reporting unit including the expectation of selling or disposing certain assets
• Sustained decreases in share price (if applicable)

The list is far from exhaustive or definitive. For example, more nuanced triggering events might include circumstances such as the inability to effectively enforce a non-compete agreement. Additionally, not all events described in ASC 350 may qualify as triggering events in certain circumstances. Market capitalization may cease to be a reliable indicator in times of high volatility, particularly for companies with more than one reporting unit.

For example, as Blockbuster Inc. grappled with changes in the entertainment industry, the company performed an interim impairment test in the third quarter of 2005, citing the following factors as triggering events:

“(i) increased competition from retail mass merchant sales of low-priced DVDs, online rentals and other sources of in-home entertainment such as digital video recorders and other devices that are capable of downloading content for in-home viewing; (ii) competition from piracy in certain international markets; and (iii) competition from other forms of leisure entertainment.”

As a result of the interim impairment test, Blockbuster recognized a goodwill impairment charge of $332 million in its international reporting unit. However, the interim test did not result in any impairment charges related to domestic reporting unit.

While Blockbuster ultimately filed for bankruptcy in 2010, it is important to emphasize that a triggering event by itself does not necessarily imply impairment, as demonstrated by the 2005 test for the domestic unit. The trigger merely indicates that goodwill needs to be reviewed through either a Step 0 or a Step 1 Test. It may well be that the fair value of a reporting unit still exceeds its carrying value, implying no impairment.

For reporting units undergoing major changes, interim goodwill impairment testing provides management, auditors, and investors with some assurance that the unit’s balance sheet reflects the current expectations for the unit.

Valuation specialists at Mercer Capital have experience in implementing both the qualitative and quantitative aspects of interim impairment testing. To discuss the implications and timing of triggering events, please contact a professional in Mercer Capital’s Financial Statement Reporting Group.