IASB to reconsider amortisation of goodwill

The International Accounting Standards Board (IASB) has indicated it now plans to consider re-introducing amortisation of goodwill as part of its post-implementation review of IFRS 3 Business Combinations.

The change of mind, first mooted at the board’s July meeting, was revealed by IASB chair Hans Hoogervorst during a speech at an event hosted by the Accounting Standards Board of Japan.

He said: ‘In Japanese GAAP, amortisation of goodwill still exists. Many Japanese stakeholders like the conservatism of goodwill amortisation and it is one of the two IFRS modifications in Japanese modified international standards.’

With the adoption of IFRS 3 in 2004 the IASB abolished the amortisation of goodwill, relying instead on the impairment-only approach. When it initially began its review of the standard, the board said it did not intend to re-visit the idea of re-introducing the concept, on the basis there was insufficient new evidence to merit investigating such an idea.

However, Hoogervorst said the board was aware of a couple of problems with the impairment-only approach to goodwill, which had led to the decision to include amortisation in its review.

‘Some of these shortcomings were already known: the annual impairment test is both costly and subjective. Often, the projections of future cash flows from cash generating units tend to be on the rosy side. Impairment losses therefore tend to be identified too late. And when an impairment loss is finally booked, the resulting information has only weak confirmatory value for investors.’ he said.

Hoogervorst’s speech outlined the issues which arise when businesses are acquired and combined with existing businesses, which mean that when impairment is tested, the value of the business being tested for impairment includes not only the value of the new business but also of the old business.

He said IASB research suggested that in such circumstances there may be pre-acquisition—and therefore unrecognised—goodwill, which it termed ‘headroom’.

Hoogervorst said: ‘In practice, a company must burn through all of this headroom before the acquired goodwill becomes visibly impaired. Since the headroom can be quite substantial, our staff research made it clearer than ever before that it is almost inevitable that the results of the impairment test will be “too little, too late”.

‘Given that IFRS 3 relies completely on the impairment test to ensure that goodwill really exists, this is a far from satisfactory situation. The risk is that goodwill just keeps on accumulating over time even when the economics do not justify this.’

As a result the balance sheet may give an overly optimistic representation of a company’s financial health.

Hoogervorst told his audience: ‘These are all good reasons for us to bring the question of re-introduction of amortisation of goodwill back to our stakeholders in the form of a discussion paper. Before Japan puts out the flags, however, let me warn you that it is far from a foregone conclusion that this discussion paper will lead to a re-introduction of amortisation.’

The IASB chair pointed out that the information value of amortisation is very low as it is impossible to determine objectively the timeline over which amortisation should occur.

‘Goodwill is an asset with indefinite life and in some cases its value might not decrease over time.

‘We also know that many investors will ignore amortisation and will immediately add it back in their projections. Given our efforts to push back on non-GAAP measurements, this would not be a great development.

‘Finally, any major accounting change needs to pass a clear cost-benefit analysis. It is not immediately clear that re-introduction of amortisation would clear that hurdle,’ Hoogervorst said.

He stated that, with the question of amortisation now included as part of the review process, ‘the discussion paper should serve to make our stakeholders better aware of the shortcomings of the impairment-only approach.’

‘It may be that there is no better alternative, but in that case we should accept the current shortcomings of IFRS 3 with our eyes wide open. Should the discussion paper lead to better awareness of the possible pitfalls of current accounting for goodwill, this would in itself be a positive development,’ Hoogervorst stated.

In his speech, Hoogervorst noted that around 200, largely multinational Japanese companies have chosen to adopt full IFRS standards. This represents more than 30% of the total market capitalisation of the Tokyo Stock Exchange, with predictions this could rise to 50% in the near future.

He said: ‘Japan has now explored a third way for jurisdictions to move forward with IFRS Standards, in addition to the existing “adopt” and “converge” models. This approach allowed the larger, more international Japanese companies to apply IFRS, without forcing all Japanese companies to switch.

‘This could be an interesting option for other jurisdictions for whom IFRS-adoption for all companies in one go might be challenging, if only because they may need time to build up IFRS expertise. For this reason, a few Asian countries are looking seriously at the Japanese model of IFRS adoption.’

IASB chair’s speech on Japan and IFRS is here

Report by Pat Sweet

Pat Sweet |Reporter, Accountancy Daily [2010-2021]

Pat Sweet was the former online reporter at Accountancy Daily and contributor to the monthly Accountancy magazine, pub...

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