Alcoa 2012 Annual Report Download - page 100

its carrying amount. If an entity elects to perform a qualitative assessment and determines that an impairment is more
likely than not, the entity is then required to perform the existing two-step quantitative impairment test (described
below), otherwise no further analysis is required. An entity also may elect not to perform the qualitative assessment
and, instead, proceed directly to the two-step quantitative impairment test. The ultimate outcome of the goodwill
impairment review for a reporting unit should be the same whether an entity chooses to perform the qualitative
assessment or proceeds directly to the two-step quantitative impairment test.
In the 2011 fourth quarter, in conjunction with management’s annual review of goodwill, Alcoa early adopted the new
guidance. As a result, Alcoa instituted a policy for its annual review of goodwill to perform the qualitative assessment
for all reporting units not subjected directly to the two-step quantitative impairment test. Management will proceed
directly to the two-step quantitative impairment test for a minimum of three reporting units (based on facts and
circumstances) during each annual review of goodwill. This policy will result in each of the nine reporting units being
subjected to the two-step quantitative impairment test at least once during every three-year period.
Under the qualitative assessment, various events and circumstances (or factors) that would affect the estimated fair
value of a reporting unit are identified (similar to impairment indicators above). These factors are then classified by the
type of impact they would have on the estimated fair value using positive, neutral, and adverse categories based on
current business conditions. Additionally, an assessment of the level of impact that a particular factor would have on
the estimated fair value is determined using high, medium, and low weighting. Furthermore, management considers the
results of the most recent two-step quantitative impairment test completed for a reporting unit (this would be 2011 and
2010 in which the estimated fair values of three and nine reporting units, respectively, were substantially in excess of
their carrying values) and compares the weighted average cost of capital (WACC) between the current and prior years
for each reporting unit.
During the 2012 annual review of goodwill, management performed the qualitative assessment for six reporting units.
Management concluded that it was not more likely than not that the estimated fair values of the six reporting units were
less than their carrying values. As such, no further analysis was required.
Under the two-step quantitative impairment test, the evaluation of impairment involves comparing the current fair
value of each reporting unit to its carrying value, including goodwill. Alcoa uses a DCF model to estimate the current
fair value of its reporting units when testing for impairment, as management believes forecasted cash flows are the best
indicator of such fair value. A number of significant assumptions and estimates are involved in the application of the
DCF model to forecast operating cash flows, including markets and market share, sales volumes and prices, costs to
produce, tax rates, capital spending, discount rate, and working capital changes. Most of these assumptions vary
significantly among the reporting units. Cash flow forecasts are generally based on approved business unit operating
plans for the early years and historical relationships in later years. The betas used in calculating the individual reporting
units’ WACC rate are estimated for each business with the assistance of valuation experts.
In the event the estimated fair value of a reporting unit per the DCF model is less than the carrying value, additional
analysis would be required. The additional analysis would compare the carrying amount of the reporting unit’s
goodwill with the implied fair value of that goodwill, which may involve the use of valuation experts. The implied fair
value of goodwill is the excess of the fair value of the reporting unit over the fair value amounts assigned to all of the
assets and liabilities of that unit as if the reporting unit was acquired in a business combination and the fair value of the
reporting unit represented the purchase price. If the carrying value of goodwill exceeds its implied fair value, an
impairment loss equal to such excess would be recognized, which could significantly and adversely impact reported
results of operations and shareholders’ equity.
During the 2012 annual review of goodwill, management proceeded directly to the two-step quantitative impairment
test for three reporting units as follows: the Primary Metals segment, the Alumina segment, and the Global Rolled
Products segment. For Global Rolled Products, the estimated fair value exceeded carrying value by more than 150%,
resulting in no impairment. For Primary Metals and Alumina, the estimated fair values exceeded their carrying values
by 9.2% and 7.4%, respectively, resulting in no impairment. These two reporting units have goodwill of $1,748 and
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