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The unit of accounting for goodwill is at a level of the entity referred to as a reporting unit. Goodwill is assigned to specific reporting units for purposes of the annual or interim impairment assessment and, therefore, identification of an entity’s reporting units is the cornerstone of goodwill impairment testing.
A reporting unit is the same as, or one level below, an operating segment as defined in ASC 280-10-50-1. Therefore, although ASC 280-10 may allow for the aggregation of operating segments into reportable segments based on similar economic characteristics, an entity’s reportable segments are not relevant in the determination of its reporting units.
One level below an operating segment is referred to as a component. A component of an operating segment is required to be identified as a reporting unit if the component is a business (as defined in ASC 805) for which discrete financial information is available and segment management regularly reviews the operating results.
Once components are identified, an entity would consider whether any components of an operating segment should be aggregated into one or more reporting units based on whether the components have similar economic characteristics.
Figure BCG 9-1 shows a company’s reporting structure used to determine its reporting units and will be referred to throughout this section.
Figure BCG 9-1
Reporting structure used to determine reporting units

9.2.1 Operating segments: starting point for reporting units

Operating segments, not reportable segments, are the basis for the determination of reporting units. ASC 280-10-50-1 defines an operating segment as a portion of an enterprise:
  • That engages in business activities from which it may recognize revenues and incur expenses (including revenues and expenses relating to transactions with other components of the same enterprise)
  • Whose operating results are regularly reviewed by the enterprise’s chief operating decision maker (CODM) to make decisions about resources to be allocated to the segment and assess its performance
  • For which discrete financial information is available
For example, using the reporting structure of Company M in Figure BCG 9-1, reportable segments X and Y are not relevant to the determination of reporting units. Instead, the determination should begin with operating segments A, B, and C. It is important not to confuse reportable segments with operating segments because this may result in the misapplication of ASC 350-20 and improper goodwill impairment testing.
Entities that are not required to report segment information are nonetheless required to determine their reporting units and test goodwill for impairment at the reporting unit level in accordance with ASC 350-20-35-38. Those entities therefore must still apply the guidance in ASC 280-10 to determine their operating segments for purposes of establishing their reporting units. See FSP 25 for further guidance on determining operating segments.

9.2.2 Reporting unit may be operating segment or one level below

Whether an operating segment should be further divided into components is based on the entity’s internal reporting structure (i.e., its management organization and its financial resource allocation and reporting), which is consistent with the determination of operating segments. For this reason, reporting units may vary significantly from organization to organization and are generally not comparable, even among competitors. Determining reporting units is a matter of judgment based on entity-specific facts and circumstances.
A component of an operating segment is a reporting unit if the component constitutes a business for which discrete financial information is available and is regularly reviewed by segment management. Segment management is not intended to be equivalent to the CODM, as defined in ASC 280-10. Instead, segment management usually reports to the CODM.
Two or more components of an operating segment, which would qualify as reporting units on their own, should be aggregated and deemed a single reporting unit if the components have similar economic characteristics. For instance, in Figure BCG 9-1, Company M’s possible reporting units would be components A1 through A4, B1, and B2, and operating segment C, before considering whether any components should be combined.
ASC 350-20 does not specifically address situations in which one or more components of an operating segment qualify as a reporting unit (or reporting units) while the remaining components do not qualify (e.g., the components are not businesses). In establishing the reporting unit(s) of such an operating segment, an entity will need to apply judgment to determine how the remaining elements that do not qualify as a component should be considered, keeping in mind that all of an entity’s goodwill must be assigned to its reporting units.

9.2.3 Criteria to be a reporting unit (goodwill postacquisition)

For a component of an operating segment to be a reporting unit, it must be a business (as defined in ASC 805) for which discrete financial information is available. The term discrete financial information, for purposes of determining if a component is a reporting unit, has the same meaning as when used to determine operating segments under ASC 280-10. ASC 350-20-55-4 states that such financial information can consist of as little as operating information (e.g., revenues and gross margins), provided that the CODM (segment management for reporting units) regularly reviews the operating results of the business. Furthermore, it states that it is not necessary for an entity to have assigned assets and liabilities at the component level to conclude that a component may constitute a reporting unit (i.e., a balance sheet is not required to qualify as a component).

9.2.4 Aggregation of reporting units

ASC 350-20-35-35 requires that two or more components of an operating segment that have similar economic characteristics be aggregated into a single reporting unit. For purposes of evaluating economic characteristics of a component of an operating segment, the following criteria for aggregating operating segments in ASC 280-10-50-11 should be considered:
  • Similar financial performance (such as similar long-term average gross margins)
  • The nature of the products and services
  • The nature of the production processes
  • The type or class of customer for the products and services
  • The methods used to distribute the products or provide the services
  • If applicable, the nature of the regulatory environment
ASC 350-20-55 provides implementation guidance, stating that while all of the factors in ASC 280-10 need to be considered, the FASB did not intend that every factor be met to demonstrate the economic similarity of the components. Furthermore, ASC 350-20-55 provides a list of other factors that an entity should consider in determining economic similarity. The following additional factors, as well as any other relevant factors, should be considered when evaluating economic similarity:
  • The manner in which an entity operates its business and the nature of those operations
  • Whether goodwill is recoverable from the separate operations of each component business or from two or more component businesses working in concert
  • The extent to which the component businesses share assets and other resources, as might be evidenced by extensive transfer pricing mechanisms
  • Whether the components support and benefit from common research and development projects
Assessing whether two or more components of an operating segment have similar economic characteristics is a matter of judgment that depends on specific facts and circumstances. The assessment should be more qualitative than quantitative. This is a notable difference from assessing the economic similarities of operating segments for aggregation into a reportable segment where quantitative measures may be more important. In addition, when a component extensively shares assets and other resources with other components of the operating segment, it may indicate that the component either is not a business or may be economically similar to those other components.

9.2.5 Components may not be aggregated across operating segments

Components that share similar economic characteristics but are part of different operating segments may not be combined into a single reporting unit. This is of notable significance for entities whose operating segments are organized on a geographic basis. Such organizations are precluded from aggregating components in different geographic operating segments, even if they are economically similar. For example, in Figure BCG 9-1, components A1 and B1 could not be combined into a single reporting unit, even if they have similar economic characteristics because they are part of different operating segments.

9.2.6 Periodic reassessment of reporting units

As discussed in BCG 9.4.4, an entity may need to reassign goodwill to reporting units when the entity’s reporting structure changes. However, ASC 350-20 does not specifically address whether an entity should periodically reassess the economic similarity of the components of its operating segments to determine whether aggregation or disaggregation of components continues to be appropriate when determining its reporting units. Generally, significant changes in the economic characteristics of components or reorganization of an entity’s reporting structure may result in a reassessment of the affected operating segment and its components to determine whether reporting units need to be redefined. When such a reassessment leads an entity to redefine previously determined reporting units, goodwill should be reassigned to the reporting units affected using the relative fair value approach, based on the fair values of the affected reporting units as of the date of the reassessment, in accordance with ASC 350-20-35-45.

9.2.7 Determining reporting units

Figure BCG 9-2 provides a summary of the various reporting levels that may exist within an entity and how the reporting levels are used in determining an entity’s reporting units.
Figure BCG 9-2
Reportable segment versus operating segment versus component
Term and definition
Use in determining reporting units
Reportable segment
  • The reporting level that is disclosed for financial reporting purposes.
  • Operating segments may be aggregated into one or more reportable segments if they meet specified criteria.
  • An operating segment could be a reportable segment if an entity does not aggregate its operating segments for reporting purposes.
  • Not applicable unless a reportable segment is an operating segment. Reporting units must be at the operating segment level or one level below the operating segment.
Operating Segment
  • Engages in business activities from which it may recognize revenues and incur expenses.
  • Discrete financial information is available.
  • Operating results are regularly reviewed by the CODM to allocate resources and assess performance.
An operating segment will be a reporting unit if:
  • All of its components have similar economic characteristics.
  • None of its components is a reporting unit.
  • It comprises a single component.
Note: Unlike a component, as described below, an operating segment need not constitute a business to be deemed a reporting unit.
Component
  • One level below an operating segment.
A component may be a reporting unit if:
  • The component constitutes a business for which discrete financial information is available.
  • Segment management regularly reviews the component’s operating results.
However, components of an operating segment should be aggregated into a single reporting unit if they have similar economic characteristics, as defined by ASC 350-20-55.
Example BCG 9-1 provides an example of the identification of reporting units.
EXAMPLE BCG 9-1
Identification of reporting units
Assume Company B manufactures, markets, and sells electronic equipment, including computers and gaming equipment for professional (e.g., casinos and gaming halls) and personal use. Company B’s CEO has been identified as the CODM and, on a monthly basis, receives, among other information, divisional income and cash flow statements for each operating segment, as well as sales on a product line basis. Based on the organizational structure of the company and information used to assess performance and resource allocation, management identified the following structure:
For segment reporting, Company B reports “Gaming” as a reportable segment and aggregates its two computer-related operating segments into a reportable segment “Computer.” Two of the three operating segments have various components that are businesses for which discrete financial information is available, and segment management regularly reviews the operating results of the businesses. The components “Personal Equipment,” “Software,” and “Desktop” have similar economic characteristics based on the nature of the products and the types of customers. Company B will have at least three reporting units (operating segments “Gaming,” “Personal Computer,” and “Computer Supplies”), and might have as many as six reporting units (five components and the operating segment “Computer Supplies”).
How many reporting units should Company B identify?
Analysis
Upon analyzing the economic characteristics of the identified components, Company B would likely conclude that:
•  Component “Professional Equipment” is not economically similar to the components “Personal Equipment” and “Software”
•  Components “Personal Equipment” and “Software” of the Gaming operating segment should be aggregated into a single reporting unit because they have similar economic characteristics
•  The economic similarities between the “Desktop” and “Laptop” components of “Personal Computer” are not sufficient for them to be aggregated, so these components would be separate reporting units
•  The “Personal Equipment” and “Software” components share very similar economic characteristics with the “Desktop” component. Despite these similarities, the “Desktop” component must be treated separately because it resides in a different operating segment than components “Personal Equipment” and “Software”
•  Operating segment “Computer Supplies” is a reporting unit because it does not have individual components
Company B would therefore identify five reporting units: “Professional Equipment,” “Personal Equipment and Software,” “Desktop,” “Laptop,” and “Computer Supplies.”

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