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    Goodwill Is An Intangible Asset That: Normal Earnings, The Excess

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    Karyl Failma
    Goodwill is an intangible asset that arises when the purchase price of an acquired company exceeds the fair value of its tangible and identifiable intangible assets. There are two main approaches to measuring goodwill: the residual approach and direct approaches. The residual approach measures goodwill as the difference between the purchase price and fair value of net assets acquired. Direct approaches measure goodwill using methods that discount or capitalize the excess of average historical or expected future earnings over a normal rate of return. Goodwill is not amortized but tested annually for impairment. If the purchase price is less than fair value of net assets, the difference is recognized as a gain rather than negative goodwill.

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    Goodwill Is An Intangible Asset That: Normal Earnings, The Excess

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    Karyl Failma
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    Goodwill is an intangible asset that arises when the purchase price of an acquired company exceeds the fair value of its tangible and identifiable intangible assets. There are two main approaches to measuring goodwill: the residual approach and direct approaches. The residual approach measures goodwill as the difference between the purchase price and fair value of net assets acquired. Direct approaches measure goodwill using methods that discount or capitalize the excess of average historical or expected future earnings over a normal rate of return. Goodwill is not amortized but tested annually for impairment. If the purchase price is less than fair value of net assets, the difference is recognized as a gain rather than negative goodwill.

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    4.1_Goodwill

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    Goodwill is an intangible asset that arises when the purchase price of an acquired company exceeds the fair value of its tangible and identifiable intangible assets. There are two main approaches to measuring goodwill: the residual approach and direct approaches. The residual approach measures goodwill as the difference between the purchase price and fair value of net assets acquired. Direct approaches measure goodwill using methods that discount or capitalize the excess of average historical or expected future earnings over a normal rate of return. Goodwill is not amortized but tested annually for impairment. If the purchase price is less than fair value of net assets, the difference is recognized as a gain rather than negative goodwill.

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    9 views2 pages

    Goodwill Is An Intangible Asset That: Normal Earnings, The Excess

    Uploaded by

    Karyl Failma
    Goodwill is an intangible asset that arises when the purchase price of an acquired company exceeds the fair value of its tangible and identifiable intangible assets. There are two main approaches to measuring goodwill: the residual approach and direct approaches. The residual approach measures goodwill as the difference between the purchase price and fair value of net assets acquired. Direct approaches measure goodwill using methods that discount or capitalize the excess of average historical or expected future earnings over a normal rate of return. Goodwill is not amortized but tested annually for impairment. If the purchase price is less than fair value of net assets, the difference is recognized as a gain rather than negative goodwill.

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    of 2

    Chapter 31.

    2: Intangible Assets (Goodwill)  Direct Approach


    - Under this approach, goodwill is
    GOODWILL measured on the basis of the
    - often referred to as the most future earnings of the entity
    “intangible asset” - considered to be a systematic
    - unique in a sense that goodwill standing
    and logical way of measuring
    alone cannot be bought and sold
    goodwill
    - if future earnings exceed
    Goodwill is an intangible asset that:
     is not specifically identifiable normal earnings, the excess
     has an indeterminate life earnings are indicative of the
     is inherent in a continuing business fact that there is an
     relates to the entity as a whole unidentifiable intangible asset
    (pertains to goodwill) that is
    Goodwill arises when earnings exceed normal causing the excess earnings
    earnings due to:
     good name DIRECT METHOD APPROACHES
     capable staff and personnel
     high credit standing METHOD 1: PURCHASE OF “AVERAGE EXCESS
     reputation for fair dealings EARNINGS”
     reputation for superior products
     favorable location Average Earnings
     a list of regular customers Less: Normal Earnings
    Average Excess earnings
    RECOGNITION OF GOODWILL Multiplied by: No. of Years
    - distinction is made between “developed Goodwill
    goodwill” and “purchased goodwill”

     Developed goodwill or internal goodwill Normal earnings = Normal rate x *Net Assets
    - shall not be recognized as an asset *Net Assets = Assets (excluding goodwill) - Liabilities

     Purchased goodwill
    - goodwill that has been paid for METHOD 2: CAPITALIZATION OF “AVERAGE
    - goodwill is recorded only when an EXCESS EARNINGS”
    entity is purchased.
    Average Earnings
    TWO APPROACHES IN MEASURING GOODWILL Less: Normal Earnings
     Residual Approach Average Excess earnings
    Divided by: Capitalization rate
    Purchase Price
    Goodwill
    Less: Fair Value of Net Tangible
    and Intangible Assets
    Goodwill
    METHOD 3: CAPITALIZATION OF “AVERAGE
    EARNINGS”

    Average Earnings
    Divided by: Capitalization rate
    Net assets (inc. goodwill) [Purch. Price]
    Less: Net Assets (excluding goodwill)
    Goodwill
    any additional assets or liabilities
    METHOD 4: PRESENT VALUE METHOD identified in that review.
    - under this method, the goodwill is the
    discounted value or present value of ----------------------------------------------------------
    the average excess earnings expected Notes:
    to become available in future periods  In journalizing, do not offset the
    amounts for cash; cash debited
    Average Excess Earnings should be the amount for which the
    Multiplied by: PV of ordinary annuity entity received; cash credited
    Goodwill reflects the purchase price
     Notice that only method 3 is the
    only method that doesn’t use
    RECORDING GOODWILL
    average excess earnings
    (true for both residual and direct approaches)
     Remember: An impairment loss for
    Sample Journal Entry: goodwill shall not be reversed in a
    Cash 50,000 subsequent period
    PPE 100,000  The standard already dropped the
    Goodwill 50,000 term “negative goodwill”; instead
    Accounts payable 25,000 account title that will be used
    Cash (purch. price) 175,000 should be “gain on bargain
    purchase”

    IMPAIRMENT OF GOODWILL
    - Goodwill shall not be amortized
    because the useful life is indefinite
    - Goodwill shall be tested for impairment
    at the operating segment level at least
    annually and whenever there is an
    indication that it may be impaired

    NEGATIVE GOODWILL
    - If the purchase price or consideration
    transferred for the entity is less than
    the net fair value of the identifiable
    assets acquired and liabilities assumed,
    the difference is negative goodwill.
    - Negative goodwill is recognized in profit
    or loss as "gain on bargain purchase".
    - The standard has already dropped the
    term negative goodwill.
    - Before recognizing a gain on bargain
    purchase, the acquirer shall reassess
    whether it has correctly identified all of
    the assets acquired and all of the
    liabilities assumed, and shall recognize

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