Glossary
Goodwill
An intangible asset recorded when a company buys another for more than the fair value of its net identifiable assets.
Goodwill is the premium an acquirer pays above the fair value of a target's identifiable net assets, recorded as an asset on the buyer's balance sheet. It represents things that cannot be separately identified and valued, such as an assembled workforce, expected synergies or a market position. Investors watch it because large goodwill balances show how much of a company's book value comes from past acquisitions, and because a write-down can reveal that a deal disappointed.
How it is calculated
Identifiable assets include not only plants and receivables but also separately valued intangible assets such as patents, customer relationships and brand names, which are booked on their own.
Impairment, not amortization
Under US GAAP, public companies do not amortize goodwill. Instead they test it for impairment at least once a year, and sooner if events suggest its value has fallen. If a reporting unit's fair value drops below its carrying amount, the company records an impairment charge that reduces goodwill and hits earnings. Private companies may elect to amortize goodwill, generally over up to ten years.
What to watch for
An impairment is non-cash and backward-looking, but a large one is an admission that the acquirer overpaid. Goodwill that is a big share of total assets or of equity makes book-value measures less meaningful, which is why some analysts use tangible book value, excluding goodwill and other intangibles.