Companies can own two type of assets: tangible and intangible. Tangible assets are assets that take physical form. These are made up of fixed assets, such as buildings, vehicles and machinery. They are also composed of current assets, which include cash and inventory. Goodwill is a form of intangible asset, along with the likes of contracts and patents. Although an intangible asset does not have a physical form, it still provides value to the company. Tangible assets are far easier to liquidate than intangible assets; machinery and buildings have a secondary market.
Goodwill is created as the result of the purchase of one company by another at a premium. It represents the difference between the price paid by the purchaser and the target company’s book value. It reflects the premium paid for a company's reputation, technology, brands and
other less tangible attributes.
Given that goodwill arises as a residual portion of the purchase price, it cannot be measured directly. It can be independently appraised on assumptions based on the excess value of the business being purchased.
For tangible assets, if there is an anticipated useful life of more than one year, then there is a requirement for the assets' worth to be depreciated over their useful lives. Prior to 2001, accounting rules required goodwill to be amortized over a period of up to 40 years. However, in 2001, the Financial Accounting Standards Board (FASB) issued an accounting pronouncement that ended automatic amortization of goodwill. As a result, goodwill is now measured annually to determine whether there has been an impairment loss. If there is no impairment, goodwill can remain on a company's balance sheet indefinitely.