June 30th, 2011

The Financial Accounting Standards Board sees discord between major auditing firms and their company clients over proposed judgments to be made in testing for impairment of goodwill, an aspect of reporting that became significant for many companies after the 2008 financial crisis.

FASB directed its staff June 29 to continue drafting final rules aimed at simplifying and cutting the costs of goodwill impairment testing, with hopes of issuing a standard in September, according to discussion at the board’s weekly meeting.

At the same time, however, FASB plans to reach out as soon as possible to leading audit firms and to companies large and small, public and private. The board suggested some form of public discussions, with many participants meeting in the same room—perhaps through what one board member said might be a “workshop,” and another proposed as a “roundtable.”

In addition, all of that work would be guided by the operative notion—at least for the time being—that the new standard would be effective for annual and interim goodwill impairment testing performed for fiscal years starting after Dec. 15, 2011, according to board discussions. FASB plans to formally consider the proposed rules’ planned effective date at a later meeting.

Option of a Qualitative Assessment

The accounting rule change (ASC 350, Intangibles—Goodwill and Other: Testing Goodwill for Impairment) would offer an option to use a qualitative assessment to obviate quantitative measurement in testing for impairment of goodwill. The purpose of the assessment is “to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount,” according to a staff-written handout distributed at the June 29 meeting.

FASB Chairman Leslie Seidman spoke of seeking to have the best implementation possible of the forthcoming accounting standards update on goodwill impairment testing—and to have the standard help accomplish its intended cost-saving, simplifying purpose. She noted several times that the proposed rule has the support of a majority of respondents to the April 22 FASB proposal, as detailed by a staff accountant.

Earlier in the meeting, board member Russell Golden spotlighted a situation, revealed in recent comment letters, in which companies see the proposed accounting option as workable and auditable, and generally view it favorably, but “their auditors” suggest that it cannot be implemented without more specific guidance that effectively defeats the purpose of the changes in standards.

Golden signaled that such auditor-client discord should not be ignored. He described a situation in which “we hope it will work out”—referring to the planned generally accepted accounting principles (GAAP)—as not appearing to him “to be the most responsible thing to do.”

Later in the meeting, Seidman said she was “glad that we’re having this conversation” in the run-up to issuance of the new GAAP. Noting the discord, she suggested that without further outreach, “we could just be delaying the revelation that the standard is not having the desired effect.”

Summarizing the views of respondents who identified themselves as users of financial statements, a FASB staff accountant said those comment-letter writers “do not expect the proposal to delay goodwill impairment losses or to affect how they evaluate goodwill reported in the financial statements.”

The majority of the other respondents who answered the user question posed in the proposal “indicated that the recognition of goodwill impairment losses may be delayed because the proposal introduces more subjectivity and discretion,” according to the staff’s written summary of constituent feedback.

CFA Institute, a leading professional group of certified financial analysts, was markedly critical of the proposal. “The need for this proposed ASU is based upon the notion that performing a quantitative analysis is too costly, yet the market appears to be able to perform the analysis in a timely manner,” as shown, the institute suggested, by academic and other studies of share prices reflecting write-offs of goodwill.

“As such, adding further qualitative factors that will only further delay the recognition of goodwill impairments is inconsistent with market evidence, which suggests that a quantitative analysis can be efficiently completed by management,” according to CFA Institute’s June 21 comment letter.

By contrast, FASB’s Private Company Financial Reporting Committee “strongly supports” the proposed accounting standards update, as Judith O’Dell, PCFRC’s chair, stated in a June 6 letter to FASB. The qualitative approach spelled out in the proposal “will reduce the costs at private companies and reduce the current burden of having to develop and audit a complex quantitative goodwill analysis,” O’Dell wrote in describing the position of the panel. FASB initially aimed its rulemaking at private companies, and later included public companies in the project’s scope.

Goodwill Impairment’s Hit to Earnings

At one large public company, Xerox Corp., Gary Kabureck praised the proposed ASU and FASB for seeking “to potentially simplify the complex workload” in assessing goodwill impairment, as the copier company’s chief accounting officer stated in a June 9 comment letter.

“One of the issues with the current accounting model for goodwill is that so much emphasis and pressure is placed on the annual impairment test and any potential impairment of goodwill resulting from that test can translate into a significant charge to earnings for a company,” wrote Kabureck, a Xerox vice president who also has led Financial Executive International’s Committee on Corporate Reporting.

In his letter, Kabureck stated that at the end of 2010, Xerox, with 134,000 employees that serve customers in more than 20 countries, had about $8.6 billion of goodwill associated with more than 20 acquisitions. Xerox’s total assets were $30.6 billion, he wrote.

Big Four Firms Critical or Cautious

In their letters to FASB on the proposal, the Big Four accounting firms registered concerns—some included amid criticism of various strengths—about auditors’ roles in being able to check companies’ assertions, using the draft ASU, that it is more likely than not that fair value of a reporting unit is less than its carrying amount. Auditors’ ability to validate management’s assertions on that front “may be difficult if this assertion is based solely on qualitative factors,” Ernst & Young LLP told FASB in its June 6 letter.