COVID-19: Is it an Impairment Triggering Event?
May 19, 2020 | John Klisch
The COVID-19 economic sudden-stop has been a significant hardship for many business leaders as they continue to navigate unchartered waters. Unfortunately, this pandemic has caused a series of complex financial reporting ramifications as well. Potential impairment of certain assets caused by “triggering events,” such as macro-economic downturns and adverse changes in the business climate, could arguably be the most widespread accounting implication of this event. Companies with assets such as property, plant, and equipment; goodwill; or other intangibles may need to calculate impairment charges in 2020. Given the immense negative financial impact of this pandemic, it would seem that few industries will be spared from this exercise. Below is a synopsis of these asset classes organized in the order in which each group should be tested.
Indefinite-Lived Intangible Assets
ASC 350-30, Intangibles – Goodwill and Other – General Intangibles Other than Goodwill
Unlike finite-lived intangibles, assets which are amortized and covered by ASC 360-10, indefinite-lived intangible assets are not amortized, but tested annually for impairment. However, testing may be required more frequently if events or circumstances indicate the asset might be impaired. These events or circumstances are called “triggering events” and to determine whether such an event has occurred, entities must consider events or circumstances such as macroeconomic conditions, industry and market conditions, cost factors that have a negative effect on earnings and cash flows, and overall financial performance. If it is determined that a triggering event has occurred, possible impairment calculations are made by comparing the fair value of the assets to their carrying amounts.
An entity may choose to perform a qualitative assessment first, in order to determine whether it is necessary to perform the quantitative assessment (fair value calculations). The quantitative assessment involves comparing the fair value to the carrying value. If the fair value is less than the carrying value, an impairment is recognized. An indefinite-lived intangible asset is initially tested for impairment on an asset by asset basis; in other words, before a larger asset group that includes the intangible asset is assessed for recoverability.
Indefinite-lived intangible assets are tested for impairment prior to long-lived assets and goodwill.
Long-Lived Assets (including Finite-Lived Intangibles)
ASC 360-10, Property, Plant and Equipment
Unlike impairment testing of assets covered in ASC 350, long-lived assets such as property, plant, and equipment (held for use) and finite-lived intangibles are only tested when events or circumstances indicate that the carrying amount of the asset group may not be recoverable. As noted, these assets are tested for recoverability at the asset group level, not on an asset by asset basis. The impacts of the pandemic may be such a circumstance if for example, this event is considered to be a significant adverse change in the business climate or there are projected operating or cash flow losses associated with the use of the asset group. If the asset group is not recoverable, its carrying amount is reduced to its fair value.
The above represents the accounting for held for use assets; however, if an entity decides that it will dispose of or sell a long-lived asset group and the “held for sale” criteria are met, a loss should be recognized, if applicable, for a write-down of the disposal group to fair value.
Groups of long-lived assets are tested for impairment after indefinite-lived intangible assets, and before goodwill.
ASC 350-20, Intangibles – Goodwill and Other – Goodwill
Goodwill is tested for impairment at the reporting unit level annually. However, testing may be required more frequently if events or circumstances change that would more likely than not reduce the fair value of the reporting unit below its carrying amount. These events or circumstances are called “triggering events” and to determine whether such an event has occurred, entities must consider events or circumstances such as macroeconomic conditions, industry and market conditions, cost factors that have a negative effect on earnings and cash flows, overall financial performance, events affecting the reporting unit, and sustained decreases in share price (if applicable). Due to the widespread economic disruption and sudden-stop, a triggering event may have occurred for many entities. It should be noted that if an entity elected the Private Company Council Goodwill simplification alternative and as such, is amortizing Goodwill, impairment testing is required only upon the occurrence of one of the above triggering events.
Entities will first qualitatively assess whether it is more likely than not that the fair value of the reporting unit is less than the carrying amount. If this is the case, a quantitative impairment analysis must be performed. The quantitative test involves comparing the fair value of the reporting unit to the carrying value. Once a triggering event has occurred, the goodwill impairment analysis should be completed before the financial statements are issued.
Goodwill is tested for impairment only after indefinite-lived intangible assets and other long-term amortizing assets, such as property and equipment, have been assessed.
Unfortunately, the fall out of this pandemic results in a number of complicated accounting issues that will take time and resources to complete. For example, determining the fair value of a reporting unit, asset or asset group requires specialized valuation skills and expertise. Therefore, knowing where to start and beginning the process early will be key to a smooth resolution of these complexities.