What is goodwill impairment and when does it occur?

Full Explanation

Goodwill impairment occurs when the fair value of a business unit (cash-generating unit) falls below its carrying amount — goodwill is written down, reducing reported earnings.

Under IFRS, goodwill is not amortised but is tested for impairment annually (or more frequently if there are indicators of impairment). Impairment testing compares the carrying amount of a cash-generating unit to its recoverable amount (the higher of fair value less disposal costs and value-in-use). If carrying amount exceeds recoverable amount, goodwill is impaired. For example, a company acquires another for £10M (£2M identifiable net assets, £8M goodwill). Three years later, the acquired company's value-in-use is £7M. Since £7M < £10M (carrying amount), there is £3M impairment, reducing goodwill from £8M to £5M and reducing earnings by £3M. Impairment triggers include: declining market conditions, increased competition, loss of key customers, loss of key employees, regulatory changes, or lower-than-expected performance. Under US GAAP (post-ASU 2017-04), goodwill impairment is the excess of carrying amount over fair value — no longer requiring the two-step test, simplifying the assessment. Goodwill impairment is a significant non-cash charge that reduces reported earnings and can trigger covenant violations. For acquirers, conservative fair value estimates at purchase price allocation and disciplined impairment reviews are critical to avoiding large write-downs.

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