What does goodwill impairment actually mean?
With ongoing economic uncertainty weighing on investor sentiment and bank stock prices, many banks are wondering what the potential downstream effects of recognizing a goodwill impairment could be. To explore this, consider two audiences that watch a bank’s balance sheet closely: the market (that is, customers, shareholders, industry analysts, etc.) and regulators.
Goodwill is an accounting construct that has no direct impact on ongoing bank performance, cash balances, or other tangible assets. The process of impairing or writing off goodwill is simply to remove the goodwill asset from the balance sheet, with the offsetting entry recorded in retained earnings via an expense. From a regulatory perspective, goodwill is excluded from regulatory capital. Therefore, goodwill impairment has no impact on regulatory capital ratios.
Banks also might consider the market’s interpretation of recording an impairment, since investors, boards, and customers might view the event as a sign of distress. To determine the reasonableness of this conclusion, Crowe compiled data on institutions that reported goodwill impairment from 2005 to 2023 to explore whether the event is viewed in the market as a harbinger of financial instability. (The data is limited to publicly reported events and publicly traded bank holding companies.)
Exhibit 3 and Table 1 show 317 public bank holding companies that have reported goodwill impairment since 2005. From those 317 observations, Crowe sought to determine how likely or unlikely any of the following market events were to occur following the disclosure of goodwill impairment.
- Credit ratings downgrade within six months of GWI (31 out of 317, approximately 9.8%)
- Filed for bankruptcy within 12 months of GWI (10 out of 317, approximately 3.2%)
- Dividend cut within six months of GWI (43 out of 317, approximately 13.6%)
Notably, the majority (245 of 317, approximately 77.3%) of institutions that recognized goodwill impairment experienced none of these adverse events. Furthermore, when 2008 to 2009 was excluded (a period in which broader economic uncertainty stemming from the housing crisis might explain the adverse events), more than 90% of institutions reporting goodwill impairment did not experience any of the market events identified.
Exhibit 3: Market events after reported goodwill impairment