6. Goodwill and Identifiable Intangible Assets

Goodwill. In accordance with the accounting standards for business combinations, the Company records the assets acquired and liabilities assumed based on their estimated fair values at the date of acquisition (commonly referred to as the purchase price allocation). As part of the purchase price allocations for the Company’s business acquisitions, identifiable intangible assets are recognized as assets apart from goodwill if they arise from contractual or other legal rights, or if they are capable of being separated or divided from the acquired business and sold, transferred, licensed, rented or exchanged. However, the Company does not recognize any intangible assets apart from goodwill for the assembled workforces of its business acquisitions. At December 31, 2015, the Company had approximately 38,000 employees, and the substantial majority of the sales generated by the Company’s businesses were from the productive labor efforts of its employees, as compared to selling manufactured products or right-to-use technology.

Generally, the largest intangible assets from the businesses that the Company acquires are the assembled workforces, which includes the human capital of the management, administrative, marketing and business development, scientific, engineering and technical employees of the acquired businesses. The success of the Company’s businesses, including their ability to retain existing business (revenue arrangements) and to successfully compete for and win new business (revenue arrangements), is primarily dependent on the management, marketing and business development, contracting, engineering and technical skills and knowledge of its employees, rather than on productive capital (plant and equipment, and technology and intellectual property). Additionally, for a significant portion of its businesses, the Company’s ability to attract and retain employees who have U.S. Government security clearances, particularly those of top-secret and above, is critical to its success, and is often a prerequisite for retaining existing revenue arrangements and pursuing new ones. Generally, patents, trademarks and licenses are not material for the Company’s acquired businesses. Furthermore, the Company’s U.S. Government contracts (revenue arrangements) generally permit other companies to use the Company’s patents in most domestic work performed by such other companies for the U.S. Government. Therefore, because intangible assets for assembled workforces are part of goodwill in accordance with the accounting standards for business combinations, the substantial majority of the intangible assets for the Company’s business acquisitions is recognized as goodwill. Additionally, the value assigned to goodwill for the Company’s business acquisitions also includes the value that the Company expects to realize from cost reduction measures that it implements for its acquired businesses.

The table below presents the changes in goodwill allocated to the Company’s reporting units in each reportable segment.


	Electronic Systems		Aerospace Systems		Communication Systems		Consolidated Total
	(in millions)
Balance at December 31, 2013
Goodwill	$	4,128	$	1,751	$	1,025	$	6,904
Accumulated impairment losses		(43)		—		(15)		(58)

		4,085		1,751		1,010		6,846

Business acquisitions⁽¹⁾		(3)		—		—		(3)
Business divestitures		(1)		—		—		(1)
Foreign currency translation adjustments⁽²⁾		(77)		(21)		(1)		(99)
Assets held for sale⁽³⁾		(231)		—		—		(231)

Balance at December 31, 2014
Goodwill		3,816		1,730		1,024		6,570
Accumulated impairment losses		(43)		—		(15)		(58)

		3,773		1,730		1,009		6,512

Business acquisitions⁽¹⁾		233		—		11		244
Business divestitures⁽⁴⁾		(20)		—		—		(20)
Business retained from NSS divestiture		26		—		2		28
Impairment charges		(26)		(338)		(20)		(384)
Foreign currency translation adjustments⁽²⁾		(61)		(39)		1		(99)

Balance at December 31, 2015
Goodwill		3,994		1,691		1,038		6,723
Accumulated impairment losses⁽⁵⁾		(69)		(338)		(35)		(442)

	$	3,925	$	1,353	$	1,003	$	6,281

⁽¹⁾

For the year ended December 31, 2015, the increase in goodwill for the Electronic Systems segment was due to the L-3 CTC and L-3 ForceX business acquisitions. The increase in goodwill for the Communication Systems segment was due to the Miteq business acquisition. For the year ended December 31, 2014, the decrease in goodwill for the Electronic Systems segment was due to the final purchase price allocation for the Mustang business acquisition.

⁽²⁾

During 2015 and 2014, the decreases in goodwill presented in the Electronic Systems segment were primarily due to the strengthening of the U.S. dollar against the Canadian dollar, the British pound and the Euro. During 2015 and 2014, the decreases in goodwill presented in the Aerospace Systems segment were due to the strengthening of the U.S. dollar against the Canadian dollar.

⁽³⁾

On December 16, 2014, the Company entered into a definitive agreement with Wärtsilä Corporation to sell its Marine Systems International business.

⁽⁴⁾

For the year ended December 31, 2015, the decrease in goodwill for the Electronic Systems segment was due to the divestitures of BSI, the Tinsley Product Line and Klein.

⁽⁵⁾

The accumulated impairment losses at December 31, 2015 exclude $571 million of impairment charges recorded during 2015 relating to the NSS reporting unit, which is reported in discontinued operations.

As discussed in Note 2, the carrying value of goodwill is tested for impairment annually as of November 30 and on an interim basis, using a two-step process, whenever events or changes in circumstances indicate that the carrying amount may not be recoverable.

The Company recorded aggregate goodwill impairment charges of $955 million in 2015 primarily due to a decline in the estimated fair value of the NSS business and the Logistics Solutions business as a result of the decline in their projected future cash flows. The adjustments the Company recorded related to goodwill impairment charges are presented in a separate caption on the audited consolidated statements of operations, and are summarized and further discussed below.


	Year Ended December 31, 2015
	Goodwill Impairment Charges
	Continuing Operations		Discontinued Operations		L-3 Consolidated
			(in millions)
Logistics Solutions reporting unit impairment	$	338	$	—	$	338
NSS reporting unit impairment		37		571		608
Re-allocation of goodwill for business retained from NSS		9		—		9

Total	$	384	$	571	$	955

Based on its annual impairment test as of November 30, 2015, the Company recorded non-cash impairment charges of $455 million for the impairment of goodwill during the fourth quarter of 2015. The goodwill impairment charges were comprised of: (1) $338 million related to a decline in the estimated fair value of the Logistics Solutions reporting unit, which is part of the Aerospace Systems segment, as a result of a decline in its projected future cash flows and (2) $117 million, of which $115 million is included in discontinued operations, related to a decline in the estimated fair value of the NSS reporting unit based on the purchase price indicated in the definitive agreement entered into on December 8, 2015 to sell the NSS business. The decline in projected future cash flows for Logistics Solutions was caused by projected future year lower sales volumes and operating margins. Logistics Solutions did not achieve its 2015 annual plan for orders due to an inability to win new business, in part due to delays of certain contract competitions, as well as certain contract recompetition losses. Additionally, Logistics Solutions did not achieve its 2015 annual plan for sales and operating income primarily due to reduced flight hours and competitive pricing pressures on logistics and maintenance contracts. The Company determined, during the preparation of its 2016 financial plan and three year forecast (2016-2018), that these factors will continue to affect the future sales and operating income performance of the Logistics Solutions reporting unit.

In connection with the sale of NSS business, the Company recorded a non-cash impairment charge of $9 million during the fourth quarter of 2015 related to the re-allocation of goodwill to a business retained by L-3.

During the third quarter of 2015, a decline in the projected future cash flows of NSS indicated that the carrying amount of the goodwill for the NSS business may not be recoverable. Accordingly, the Company performed an impairment test for the NSS business, determined that the implied goodwill was lower than the carrying amount, and recorded a non-cash impairment charge of $491 million, of which $456 million is included in discontinued operations, for the impairment of goodwill. The goodwill impairment charge was due to a decline in the estimated fair value of the NSS business as a result of a decline in the projected future cash flows of NSS caused by NSS’s inability to achieve its planned 2015 orders, sales and operating income, primarily due to lower than expected new commercial and international business awards, and a reduced outlook for operating margin and international sales.

In summary, the Company recorded total impairment charges relating to the NSS business aggregating $608 million during the year ended December 31, 2015, including $117 million during the fourth quarter of 2015 and $491 million during the third quarter of 2015. The NSS goodwill impairment charges were allocated between income from continuing operations and income from discontinued operations based on the relative fair values of the NSS business retained by L-3, and the NSS business sold at each goodwill impairment test date. This resulted in $37 million classified in income from continuing operations and the remaining $571 million classified in income from discontinued operations.

Identifiable Intangible Assets. The most significant identifiable intangible asset that is separately recognized for the Company’s business acquisitions is customer contractual relationships. All of the Company’s customer relationships are established through written customer contracts (revenue arrangements). The fair value for customer contractual relationships is determined, as of the date of acquisition, based on estimates and judgments regarding expectations for the estimated future after-tax earnings and cash flows (including cash flows for working capital) arising from the follow-on sales on contract (revenue arrangement) renewals expected from the customer contractual relationships over their estimated lives, including the probability of expected future contract renewals and sales, less a contributory assets charge, all of which is discounted to present value.

Information on the Company’s identifiable intangible assets that are subject to amortization is presented in the table below.


	December 31, 2015								December 31, 2014
	Weighted Average Amortization Period		Gross Carrying Amount		Accumulated Amortization		Net Carrying Amount		Gross Carrying Amount		Accumulated Amortization		Net Carrying Amount
	(in years)		(in millions)
Customer contractual relationships		16	$	370	$	246	$	124	$	355	$	221	$	134
Technology		11		156		91		65		132		82		50
Other		18		21		11		10		21		10		11

Total		15	$	547	$	348	$	199	$	508	$	313	$	195

Amortization expense recorded by the Company for its identifiable intangible assets is presented in the table below.


	Year Ended December 31,
	2015		2014		2013
	(in millions)
Amortization expense	$	35	$	39	$	35

Based on gross carrying amounts at December 31, 2015, the Company’s estimate of amortization expense for identifiable intangible assets for the years ending December 31, 2016 through 2020 is presented in the table below.


	Year Ending December 31,
	2016		2017		2018		2019		2020
	(in millions)
Estimated amortization expense	$	33	$	31	$	26	$	23	$	20