Negative Goodwill (NGW)
Candlefocus EditorWhen a company pays for the assets of another business at a lower price than their true market or book value, the difference between the purchase price and the fair value is known as a negative goodwill or bargain purchase gain. Contrary to regular goodwill, where the buyer pays more than book value in order to acquire the business and its assets, negative goodwill occurs when the buyer pays less than the book value.
Under Generally Accepted Accounting Principles (GAAPs), negative goodwill is treated as a gain on the part of the buyer, who must declare it as income on their financial statements. At the same time, the seller is required to recognize any negative goodwill as a loss. The full amount of negative goodwill is immediately recognized, regardless of whether it will generate revenues in subsequent years. Essentially, it adjusts the purchase price for the seller’s overvaluation of assets that transferred ownership.
When a company purchases assets of another business at a price lower than book value, the buyer may have an ethical and moral obligation to demonstrate that the purchase was in good faith, and for the sole purpose of acquiring the assets. While negative goodwill is certainly a benefit for the buying company, the acquisition must still be scrutinized in order to ensure that its purpose was not to exploit the distressed financial status of the seller.
In conclusion, negative goodwill is an accounting term used to describe an amount paid by a buyer when it acquires assets from a distressed seller at a price lower than their market or book value. While negative goodwill is usually an advantage for buyers, they must ensure that the purchase was done in good faith, and not just to take advantage of the seller’s predicament. Companies must also be aware that negative goodwill is subject to GAAP regulations and must be reported on their income statements accordingly.