Goodwill
AccountingThe residual left when the price paid for a business exceeds the fair value of its identifiable net assets.
Goodwill arises only through acquisition. After every identifiable asset and liability has been written to fair value, including intangibles the target never recognised, whatever remains of the purchase price becomes goodwill.
It is a plug rather than a valuation of anything specific. In principle it represents things that cannot be separately identified and sold: assembled workforce, reputation, expected synergies, and sometimes simply overpayment.
Because it has no determinable life, it is not amortised. Instead it is tested for impairment at least annually, and a write down is effectively management conceding the acquisition did not deliver what was paid for it.
Internally generated goodwill is never recognised. A company that built a formidable brand from nothing carries no goodwill for it, while a company that bought the same brand does, which is a real limit on comparing balance sheets.
Worked example
An acquirer pays 1,200 for a business whose identifiable net assets are worth 712 at fair value, so goodwill is 488.
Three years later the unit's recoverable amount falls to 900 against a carrying value of 1,050. The 150 shortfall is written off against goodwill, taking it to 338.
The write down is non cash and reverses out of operating cash flow, but it is management conceding the acquisition did not deliver what was paid for it.