ACCOUNTING FOR NEGATIVE GOODWILL

Negative goodwill arises where the cost of investment in a subsidiary is lower than the acquired fair value of that subsidiary's net assets. Put simply, the parent company has purchased a subsidiary at a discounted price.

Such a situation will normally arise with poorly performing companies, such as those suffering going concern problems or having to enter into liquidation, in which case the owners have no alternative but to sell the company at a cheap price in order to settle its debts.

While there is nothing uncommon to acquire companies at below their fair values (such as in a forced sale), a parent company would normally look to acquire subsidiaries with great income generating potential, i.e. those that can generate surplus economic benefits in the long term. This follows the expectation that a parent company will rarely acquire a poorly performing company unless it is for strategic reasons.

Because of this expectation, when a negative goodwill arises on a business combination, IFRS 3 Business Combinations requires the fair values of the consideration paid and the net assets acquired to be checked carefully to ensure that there are no errors. In other words, a negative goodwill only arises because the parent company genuinely purchased a subsidiary at below market value.

After the checking, if there is still negative goodwill, then it should be recognised immediately in profit or loss as a gain. It is important to distinguish the treatment of negative goodwill from positive goodwill. Positive goodwill (or simply known as 'goodwill' on a business combination) is recognised in the Statement of financial position as a non-current asset and subject to impairment. On the other hand, negative goodwill should be charged immediately to the Statement of comprehensive income in the period in which it arises.