Did you know goodwill accounting in Malaysia used to have no strict rules at all? Before adopting global standards, companies followed a loose approach, often leaving goodwill values unclear and inconsistent.
That all changed with the introduction of FRS 136 – a detailed and technical framework for the impairment of assets. While Malaysia’s move to adopt IFRS showed a strong commitment to global standards, many companies struggled to keep up.
Reports fell short of expectations, revealing the challenges of adapting to these new, complex rules. Therefore, businesses must deepen their understanding of managing goodwill effectively. Read this article to find out more about goodwill accounting!
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What is Goodwill Accounting?
Goodwill accounting is an intangible asset that represents the extra value a company pays when buying another business. This extra amount is above the fair market value of the company’s net assets. Unlike some jurisdictions, the option to amortize goodwill over a specific period is unavailable in Malaysia.
Goodwill includes factors like a strong reputation, loyal customers, brand recognition, skilled employees, and unique technology. While these are valuable assets, they aren’t physical, and their exact value can’t be measured. In retail accounting, these intangible factors often influence how businesses evaluate potential acquisitions.
According to Malaysian Financial Reporting Standards (MFRS), which align with IFRS Standards, goodwill is considered to have an indefinite lifespan and is not amortized. Instead, companies are required to conduct annual impairment tests to ensure its value has not decreased.
Accounting vs. Economic Goodwill
Goodwill is often divided into two types: economic (or business) goodwill and accounting goodwill. However, treating them as entirely separate is misleading. Accounting goodwill is simply the acknowledgment of a company’s economic goodwill in its financial records.
Accounting goodwill arises when one company buys another for more than the fair market value of its net assets. This “creation” of goodwill is not actually the formation of a new asset, but the formal recognition of an already existing one.
It appears as an intangible asset on the balance sheet, reflecting the value attributed to things like brand reputation, loyal customers, or other competitive advantages.
Economic or business goodwill refers to these intangible assets, such as a strong brand or excellent customer relationships, that give a company a competitive edge. This value can often be inferred by analyzing metrics like the return on assets ratio.
In Malaysia, a notable example of goodwill is Pan Malaysia Corporation Berhad, which reported goodwill of RM17.4 million as of September 2024. This goodwill accounting stems from the company’s strong brand identity and customer loyalty in the consumer goods sector.
Limitations of Goodwill Accounting
Goodwill accounting can be hard to measure, and negative goodwill happens when a company is bought for less than its fair market value. This often occurs in situations where the target company is unable or unwilling to negotiate a better price.
Negative goodwill is common in distressed sales and is recorded as income on the buyer’s income statement.
However, if a previously successful company goes bankrupt, its goodwill accounting loses all value, as it cannot be sold. In such cases, investors exclude goodwill when calculating the company’s remaining equity.
Goodwill Accounting Impairment
Goodwill accounting can decrease when the market value of an asset drops below its original cost, often due to events like:
- Declining cash flow
- Increased competition
- Economic downturns
When this happens, the company must write down the asset’s value on the balance sheet. This happens if the acquired net assets are worth less than their recorded value, or if goodwill was overestimated. The impairment loss is the difference between the current market value and the purchase price of the asset.
This write-down reduces the goodwill amount on the balance sheet and is recorded as a loss on the income statement. It lowers the company’s net income, which can also affect earnings per share (EPS) and the stock price.
Impairment Tests
Companies check for impairment using an impairment test, often through two methods:
- Income Approach: Future cash flows are estimated and discounted to their present value.
- Market Approach: The assets and liabilities of similar companies in the same industry are compared.
These tests help determine if an asset’s value has decreased. Here’s the step-by-step for goodwill accounting impairment test:
- Determine the Carrying Amount
- Calculate the book value of the asset or cash-generating unit (CGU), including goodwill.
- Estimate the Recoverable Amount
- The recoverable amount is the higher of:
- Value in Use (VIU): Estimated future cash flows from the asset/CGU, discounted to their present value using a discount rate.Formula:
Where t is the time period. - Fair Value Less Costs to Sell (FVLCTS): The market value of the asset, minus any costs of selling it.
- Compare Carrying Amount and Recoverable Amount
- If the Carrying Amount > Recoverable Amount, impairment exists.
- Calculate the Impairment Loss
- Impairment Loss = Carrying Amount – Recoverable Amount.
- Adjust Financial Statements
- Reduce the asset’s book value on the balance sheet.
- Record the impairment loss in the income statement.
Steps for Calculating Goodwill Accounting
Calculating goodwill accurately requires careful steps to ensure fair valuation and proper recording. Each step builds on the previous one to create a clear picture of the goodwill value. Below are the steps to calculate goodwill accounting accurately:
1. Book Value of Assets
Start by identifying the book value of all assets listed on the target company’s balance sheet, including current, non-current, fixed, and intangible assets. These figures can be found in the company’s latest financial statements.
2. Fair Value of Assets
Determine the fair market value of the assets. This step requires professional judgment, and an accounting firm can analyze and justify the fair value of each asset.
3. Adjustments
Calculate the adjustment for each asset by subtracting its book value from its fair value.
4. Excess Purchase Price
Find the Excess Purchase Price by subtracting the net book value of the target company’s assets (assets minus liabilities) from the actual price paid for the acquisition.
5. Calculate Goodwill
Finally, subtract the Fair Value Adjustments from the Excess Purchase Price. The remaining amount is the Goodwill, which is recorded on the acquiring company’s balance sheet after the transaction is completed.
Examples of Goodwill Accounting
Let’s say Company BumiTech Sdn Bhd acquires Company JayaMart Sdn Bhd for RM1,000,000. The fair value of JayaMart’s net assets differs from the book value due to the following reasons:
- Accounts receivable fair value is lower because of uncollectible debts.
- Inventory fair value is lower due to obsolete stock.
- Property, Plant, and Equipment (PPE) fair value is higher because depreciation exceeded the decline in fair value.
Fair Market Value of Net Assets
| Asset/Liability | Book Value (RM) | Fair Value (RM) |
| Accounts Receivable | 200,000 | 180,000 |
| Inventory | 300,000 | 250,000 |
| Property, Plant, and Equipment | 500,000 | 600,000 |
| Liabilities | (400,000) | (400,000) |
| Net Assets (Fair Value) | 600,000 | 630,000 |
If BumiTech pays RM1,000,000 for JayaMart, the economic goodwill created is:
Goodwill = Purchase Price − Fair Value of Net Assets
= 1,000,000−630,000
= 370,000
Therefore, the journal entry for BumiTech Sdn Bhd would look like this one below:
| Account | Debit (RM) | Credit (RM) |
| Accounts Receivable | 180,000 | |
| Inventory | 250,000 | |
| Property, Plant, and Equipment | 600,000 | |
| Goodwill | 370,000 | |
| Liabilities | 400,000 | |
| Cash | 1,000,000 |
Explanation:
- Assets (Accounts Receivable, Inventory, and PPE) are recorded at their fair values.
- Goodwill represents the premium BumiTech paid over the fair value of JayaMart’s net assets.
- Liabilities are recorded at their fair value.
- Cash reflects the purchase price paid by BumiTech.
Tackle Goodwill Valuation Challenges Easily with HashMicro
Goodwill accounting can be tricky, especially when dealing with fair market values, impairment tests, and financial standards like MFRS or IFRS. On top of that, using manual methods or separate tools often leads to disjointed data, which leads to tedious check-and-balance progress.
However, with the technology that can centralize data and is easy to use, such as HashMicro Accounting Software, reviewing and monitoring goodwill accounting has been simplified. With advanced features and built-in Business Intelligence (BI), shareholders can easily make measured decisions.
HashMicro provides these features for accurate goodwill accounting review:
- Complete Financial Statement (GL, TB, P&L, BS) with period comparison: Helps in tracking goodwill on the balance sheet and assessing changes over time. With financial reporting software, these statements are generated seamlessly, ensuring accuracy.
- Multi-Level Analytical (Compare FS per project, branch, etc): Enables detailed analysis of how goodwill affects financial performance across segments.
- Comprehensive financial reporting: Provides insights needed for valuation and impairment testing of goodwill.
- Equity Movement Report: Useful for understanding changes in shareholder equity related to goodwill adjustments.
- In-Depth Accounting Reports: Supports the calculation of metrics like return on assets, which is key in assessing goodwill’s economic impact.
- Comprehensive Treasury and Forecast for Cash Management: Helps evaluate whether a company has sufficient resources to justify goodwill during acquisitions.
- Asset Management with Revaluation, with 3 Depreciation Methods: Assists in aligning the valuation of tangible and intangible assets, including goodwill.
- Customer Aging Report & Statement: Helps in assessing the quality of receivables, which can indirectly impact goodwill valuation during acquisitions.
Conclusion
Goodwill accounting captures the extra value a company pays above the fair market value of assets. It includes intangible benefits like a brand reputation for added value. However, goodwill must be carefully monitored, especially with annual impairment tests required under financial standards.
Struggling with the complexities of goodwill accounting? HashMicro’s Accounting Software makes it simple and hassle-free. With advanced features like real-time reporting and financial analysis, you can handle goodwill calculations effortlessly.
HashMicro’s intuitive platform brings everything together, which makes goodwill accounting a breeze. This software automates goodwill valuation calculations and tracking impairment results directly in real time. As a result, the company is presented with accurate data for easier goodwill accounting valuation.
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FAQ on Goodwill Accounting
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How is goodwill different from other intangible assets?
Unlike specific intangible assets like patents or trademarks that can be valued and sold separately, goodwill is an overall value tied to the company itself. Goodwill can’t be separated or sold individually and is listed as a single asset on the balance sheet.
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What are the different types of goodwill?
There are two main types of goodwill: purchased goodwill, which arises when a company acquires another and pays more than the fair value of its net assets; and inherent (or generated) goodwill, which develops internally over time through factors like brand reputation and customer loyalty.
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How is goodwill used in investing?
In investing, goodwill is crucial in determining a company’s overall worth. Investors analyze financial statements and conduct due diligence on acquisition targets to assess the value of goodwill. Goodwill can also be used as collateral for loans or as part of a merger or acquisition deal structure. However, it’s important to note that goodwill values can fluctuate over time and may not always accurately reflect a company’s actual worth.
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Is goodwill considered an expense?
No, goodwill is not considered an expense. It is an intangible asset representing the excess of a company’s purchase price over the fair value of its net assets. In accounting terms, expenses are costs incurred by a business in generating revenue, whereas goodwill reflects the value of intangible factors acquired during a business combination.
