Article | Review of Accounting Studies | December 2012

Evidence on the Use of Unverifiable Estimates in Required Goodwill Impairment

by Karthik Ramanna and Ross L. Watts

Abstract

SFAS 142 requires managers to estimate the current fair value of goodwill to determine goodwill write-offs. In promulgating the standard, the FASB predicted managers will, on average, use the fair value estimates to convey private information on future cash flows. The current fair value of goodwill is unverifiable because it depends in part on management's future actions (including managers' conceptualization and implementation of firm strategy). Thus, agency theory predicts managers will, on average, use the discretion in SFAS 142 consistent with private incentives. We test these hypotheses in a sample of firms with market indications of goodwill impairment. Our evidence, while consistent with some agency-theory derived predictions, does not confirm the private information hypothesis.

Keywords: agency theory; goodwill impairment; fair-value accounting; FASB; SFAS 142; Fair Value Accounting; Standards; Cash Flow; Agency Theory; Motivation and Incentives; Forecasting and Prediction; Goodwill Accounting;

Citation:

Ramanna, Karthik, and Ross L. Watts. "Evidence on the Use of Unverifiable Estimates in Required Goodwill Impairment." Review of Accounting Studies 17, no. 4 (December 2012): 749–780.