DJ TALES OF THE TAPE: Cisco Braces For New Accounting Rule
22 May 08:15
By Peter Loftus
Of DOW JONES NEWSWIRES
(This report was originally published Monday.)
NEW YORK (Dow Jones)--Nearly lost amid the staggering $3.37 billion in
accounting charges taken by Cisco Systems Inc. (CSCO) in its last quarter was
one charge that could be a preview of things to come.
The San Jose network equipment giant took an asset impairment charge of $289
million, most of which stemmed from the 1999 all-stock acquisition of Monterey
Networks Inc., a Richardson, Texas, startup.
Cisco wrote down the value of its Monterey assets because it recently
discontinued the product line it inherited from the $500 million purchase.
Monterey had been developing an optical router, but Cisco determined in April
that the market for the router was developing more slowly than expected.
Although the writedown was non-cash and thus had no effect on operating
results, it showed that Cisco basically threw $500 million out the window for a
product that never got off the ground.
A new accounting rule could force Cisco and other tech companies to take
similar charges in the future, putting a spotlight on their acquisition
strategies. Such charges could create the perception - if not portray the
reality - that Cisco paid too much to acquire too many companies back when its
shares were soaring, before the current tech market downturn began last year,
accounting experts say. Cisco shares recently traded at $22.20, up $2 from
Friday's close but well off their all-time high of $82 in March 2000.
"What I feel might happen is, if a company has a series of goodwill charges,
a perception will develop they're not a very good or astute acquirer," said
Robert Willens, an accounting expert at Lehman Brothers Inc. "They'll be viewed
as an acknowledgment that they overpaid."
Cisco spokesman Kent Jenkins said the company wouldn't disclose whether it
expects to take charges under the new accounting rule. He defended Cisco's
acquisition strategy, saying the company had hit some "home runs" among the
more than 70 acquisitions it's made since 1993.
The new rule is being implemented by the Financial Accounting Standards
Board, or FASB, later this year. Companies will no longer have to amortize on a
quarterly basis the goodwill from acquisitions. Goodwill is the difference
between the amount a company pays in an acquisition and the net book value of
the acquired company's assets.
Up until now, companies have been required to amortize goodwill on a
quarterly basis whether the underlying assets have been impaired or not. Many
tech companies have reported earnings excluding goodwill amortization from
their pro forma earnings, and the routine nature of writedowns has made them
less likely to draw attention from investors.
Instead of amortizing goodwill, companies will now be required to
periodically test the value of their acquired assets. If the value drops and
meets a complex set of criteria, the company must write down part or all of the
goodwill from the acquisition.
Such writedowns would be similar - though not identical - to the one taken by
Cisco to reflect the discontinuation of the Monterey optical product line.
Acquisitions Designed To Develop Technology
Cisco's strategy has been to develop internally as much new technology as
possible, and to purchase new technology through acquisitions in order to
maintain its leadership in a fast-moving market.
Many of Cisco's acquisitions were accounted for as purchases, and as a
result, Cisco had $4.96 billion in goodwill and purchased intangible assets on
its balance sheet as of April 28, the end of its fiscal third quarter.
Mark Cheffers, chief executive of AccountingMalpractice.com, an accounting
education Web site, said he suspects Cisco will take several goodwill and other
asset writedowns in the company's fiscal fourth quarter, which ends in late
July.
Given that Cisco expects to report a relatively weak fourth quarter, the
company might decide to throw in the writedowns even before the FASB rule goes
into effect, cleaning the books in hopeful preparation for an improved fiscal
2002, Cheffers said.
"I wouldn't at all be surprised if a company like Cisco, before year-end,
took a long hard look at implementing this new FASB rule for all their
writedowns," Cheffers said.
The first part of the FASB rule goes into effect June 30, after which
companies must account for all acquisitions as purchases. Companies will no
longer be able to use pooling of interest accounting, a method that results in
no additional goodwill.
Secondly, companies must end quarterly amortization of goodwill in fiscal
years beginning after Dec. 15. For most companies, whose fiscal years coincide
with the calendar year, that means they must implement the rule Jan. 1, 2002.
Within six months of the start of implementing the new rule, they must begin
periodic testing for asset impairments, and take any resulting writedowns.
Because Cisco's fiscal year ends in July, it doesn't have to implement the
new FASB rule until late July 2002. But under FASB guidelines, Cisco is
permitted to implement the rule at the start of fiscal 2002, in late July 2001.
Jenkins, the Cisco spokesman, said the company hasn't yet decided when to
implement the new rule.
As FASB has been crafting the new rule over the past two years, Cisco has
generally supported the elimination of quarterly amortization of goodwill,
Jenkins said. He said periodic testing of the value of acquired assets will
provide a more accurate picture of the company's overall assets.
"By and large, it certainly appears the proposal that FASB has put on the
table is clearly superior to what has been used up till now," Jenkins said.
As for the new rule's effect on perceptions of Cisco's acquisition strategy,
Jenkins defended the strategy. "We are a company that basically believes in
taking very well-considered, well-researched risks when, in the atmosphere
we've been in for a while, technology is quickly evolving," he said.
He noted that while the Monterey acquisition ultimately failed, Cisco has had
some successful purchases. Indeed, on the same day Cisco announced the Monterey
buy in 1999, it also announced the $6.9 billion purchase of another optical
firm, Cerent Corp., Petaluma, Calif.
Today, products derived from the Cerent purchase have annualized sales of $1
billion. When Cisco bought it, Cerent had sales of just $10 million since its
inception in 1997.
Cheffers, the accounting expert, noted that the FASB rule has no provision
for "writing up" the value of goodwill for successful acquisitions, so it's
possible that failed acquisitions will receive more attention.
Some experts have predicted that the elimination of pooling-of-interest
accounting will put a damper on some firms' acquisition strategies. Cisco has
cautioned about this possibility, albeit in boilerplate language among the risk
factors listed in its most recent 10-Q filing: "It could alter our acquisition
strategy and impair our ability to acquire companies."
Jenkins said Cisco planned to continue making acquisitions, but he cautioned
that the current depressed tech market could have an impact on the strategy.
-By Peter Loftus, Dow Jones Newswires; 201-938-5267;
peter.loftus@dowjones.com
(Janet Whitman, Dow Jones Newswires, contributed to this report.)
(END) DOW JONES NEWS 05-22-01
08:15 AM |
