AWSJ: WEEKEND JOURNAL: Hunting For Goodwill In Asia
April 5, 2001
Dow Jones Newswires
By PHILIP SEGAL
Staff Reporter
Think transparency is bad in Asia? Well, Asian investors rejoice: New accounting rules in Hong Kong are actually going to make it easier to analyze takeovers and mergers here than in the U.S., all because of a change in how companies will account for "goodwill."
It's not often that the rules in Hong Kong favor the small investor, and to take full advantage of this one you have to know a little bit about (gasp!) accounting. Sure, it's a topic with a boring reputation, however deserved. But unless you know the basics, you have no business picking your own stocks.
Figuring out the winners and losers when companies merge has always involved a degree of debate because of the differing ways there are to account for what's been bought. On the balance sheet -- that snapshot in time that tries to estimate what a company is actually worth -- it all comes down to goodwill, often listed as "intangible assets."
Companies can accumulate billions in goodwill (defined as what they pay for a company in excess of the net asset value). But starting with nearly all transactions made in Hong Kong after December of last year, companies will now have to write that goodwill off against earnings over the course of up to 20 years.
What's the advantage for the small investor here? It will let people see whether or not paying a premium for goodwill "really helped the company create earnings," says Alan Doris, a tax lawyer who headed the American Bar Association ABA tax section committee.
Goodwill can encompass intellectual property, patents or any other intangible asset, such as a company's good name. But just like tangible assets, these can wear out over time and need to be replenished. The only way a company does that is by earning profits and investing further.
In the past, some companies have chosen to treat goodwill like some shameful, pending punishment: They know they have to suffer it sometime, so they get the pain over with by writing it off all at once against reserves. On the surface, profits look better in subsequent years because there's no more goodwill writeoffs to drag it down.
But when a company immediately writes off all of its goodwill against its reserves, it avoids long-term accountability for its purchase. This "reduces the transparency to the acquisition strategy and the decisions management has made," says Jim Harrington, a
partner with accounting firm PricewaterhouseCoopers in the U.S. "Writing (goodwill) off to reserves is not appropriate. Goodwill is an asset."
Amazingly, many large U.S. companies for years have had the option of not charging themselves a penny for goodwill in an acquisition. Under a system known as "pooling," two companies combine their accounts, and no goodwill is created. As that system is phased out in the U.S., one nearly as bad could replace it: Companies may have the option not to write off any goodwill, subject to an asset impairment test -- when a company's auditors decide that certain assets have lost value.
That's no longer the case in Hong Kong, to the undoubted chagrin of many companies. The advantage they saw in not having to treat their goodwill as an asset is obvious. Take Pacific Century CyberWorks: It paid a ton of money in cash and stock last year to take over Hong Kong's phone company, and in so doing it racked up $22 billion in goodwill.
Instead of writing this mammoth purchase off over 20 years, which would have cost it more than $1 billion a year on the bottom line, PCCW just made the goodwill go away by writing it off against reserves in one fell swoop. As a result, the company now has a negative net worth - that is, its liabilities outweigh its assets. But since it still has enough cash to keep going day to day, it will be able to show much better-looking earnings next year than if it had taken its billion-dollar annual hit on the profit and loss statement.
Several other prominent companies in Hong Kong will face similar goodwill issues in the years to come. Following its $33 billion acquisition of seven mobile phone networks in China last year, Hong Kong-listed China Mobile took a $29 billion write-off from its reserves up front, just like PCCW. But China Mobile's next purchase of this size would mean $1.5 billion charged against profits every year for up to 20 years.
Another company wrestling with intangibles is China's largest computer maker, Legend Holdings, which accumulated HK$1.9 billion in goodwill in 1997, but hasn't decided how to write these off. Under the new rules, Legend's HK$1.9 billion in goodwill would have turned the results into a net loss in 1998 and reduced profits by a third in 1999. In the future, Legend, China Mobile and others won't have the luxury of the all-in-one write-off.
Lesson to investors: Check your company's balance sheet. If it has "intangible assets" or goodwill listed somewhere, the earnings could be in for a little hiccup in the years to come.
And that's how it should be. If the acquisition price is fair, there should be no problem charging the goodwill against earnings, bit by bit. If the price is too high, shareholders will soon get the message in disappointing earnings reports.
---
Send comments to philip.segal@awsj.com
--------------------------------------------------------------------------------
URL for this Article:
interactive.wsj.com
--------------------------------------------------------------------------------
Copyright © 2001 Dow Jones & Company, Inc. All Rights Reserved.
Printing, distribution, and use of this material is governed by your Subscription Agreement and copyright laws.
For information about subscribing, go to wsj.com
interactive.wsj.com@1.cgi?merry693/text/autowire/data/BT-CO-20010405-007405.djml/&d2hconverter=display-d2h&NVP=&template=atlas-srch-searchrecent-nf.tmpl&form=atlas-srch-searchrecent-nf.html&from-and=AND&to-and=AND&sort=Article-Doc-Date+desc&qand=&bool_query=cyberworks&dbname=%26name1%3Ddbname%26name2%3Ddbname%26name3%3Ddbname%3Bwsjie%26named%3Ddbname%26period%3D%3A720&location=article&HI=
Used with permission of wsj.com |
