Last week, the Financial Accounting Standards Board (FASB) approved two exceptions in Generally Accepted Accounting Principles (GAAP) for private companies. Proponents of simplified accounting rules have suggested that private companies be exempted from certain of the more complicated and costly rules. In making these two exceptions, the FASB approved the concept that private companies can fairly report their financial position and results of operation under more simple rules than are required for public-traded companies. This concept has often been suggested over the years, but has rarely been actually adopted. Many believe that the implementation of accounting principles is overly complicated, and does not match the costs of implementation with the additional benefit of improved reporting.
FASB’s approvals last week involve (i) a simplification on hedge accounting rules, and (ii) more important for most readers (and as described below), a change in the accounting for goodwill.
Goodwill occurs when an acquisition of an enterprise occurs, and the fair value of the identifiable assets less liabilities purchased is less than the purchase cost. The additional amount paid is called goodwill. Prior to 2001 (FAS 142), goodwill was amortized (written off) over a period of no more than 40 years. With FAS 142, goodwill was not written off over time, but was instead written off only when the goodwill’s value was impaired. The impairment determination occurred by hiring a business appraisal firm (like my firm), but this annual valuation process is costly and time consuming. Recently, the FASB allowed the valuation process to be streamlined, as is described in this post.
The new rule for private companies calls for goodwill to be amortized (written off) over not more than ten years. Goodwill could still be written off all at once if impaired, but do not expect to actually see this happen in practice unless the private company becomes financial distressed. The new rule applies to years beginning after December 15, 2014 (meaning 2015 for calendar-based companies), but earlier adoption is allowed.