What is the term for the excess of purchase price over the fair value of net assets in an acquisition? The excess is called goodwill.
Goodwill is an intangible asset recognized when an acquirer pays more than the fair value of a target’s identifiable net assets. The premium can reflect expected synergies, an assembled workforce, customer relationships, reputation, intellectual property that is not separately identifiable, or the target’s ability to generate future earnings.
For example, if identifiable assets less liabilities have a fair value of $90 million and the buyer pays $120 million, the acquisition initially produces $30 million of goodwill. Accountants first identify and measure tangible and separately identifiable intangible assets; only the residual amount is recorded as goodwill. It is not simply another name for a brand, and it cannot be created by internally building a company’s reputation.
Under current U.S. GAAP and IFRS, public companies generally do not amortize goodwill. Instead, they test it for impairment and reduce its carrying amount when the related reporting unit or cash-generating unit has lost value. U.S. private companies may elect a simplified amortization alternative. Goodwill therefore represents an acquisition premium, not a cash reserve or a stand-alone asset that can normally be sold separately.