Goodbye goodwill as European firms pay high price for M&A
LONDON (Reuters) - European companies are having to reassess the cost of a rush of takeovers in more buoyant times as regulators call time on outdated asset values.
Companies are obliged to ensure the goodwill sums in their accounts accurately reflect the future economic benefits of a target. As recession bites, some are increasingly reluctant to trim a figure that reflects the premium they paid.
The European regulator, ESMA, estimated this month that just 5 percent of the goodwill on European companies it sampled had been written off to reflect current trading conditions, making it tough to analyse their true worth and management skills.
It highlighted financial services and telecoms but other research has thrown up the auto sector and metals as well and highlighted Italy and Spain as areas of particular concern.
The ESMA (European Securities and Markets Authority) says if goodwill writedowns do not become more accurate this year, it will start naming and shaming the worst offenders.
Writing off chunks of acquisitions can reflect hasty dealmaking or merely the economic slowdown, Simon Jones, director at valuation firm American Appraisal, told Reuters.
"If the market is going in one direction, it's beyond the control of management," he said.
But if it is not done, or not done enough, investors will take their own view.
At the end of 2011, almost a quarter of the 600 companies in the Stoxx Europe index traded well below book value compared to less than 10 percent four years earlier, a study by investment bank Houlihan Lokey showed.
Automotives, metals, banks and insurance sectors were amongst those with the highest share of companies with a market capitalisation below 90 percent of the book value of equity.
Marc Hayn, Houlihan Lokey's managing director, told Reuters public relations may be partly to blame.
"Either they overpaid in former times or companies are not able to communicate to the market the value of their business."
In terms of regions, Italy and Spain showed the worst ratios of market capitalisation versus book value of equity with just 43 percent and 58 percent respectively.
Italian carmaker Fiat (FIA.MI) has 10.4 billion euros of goodwill recorded in its annual report to end-2011, almost double its 5.7 billion euros market capitalisation.
PSA Peugeot Citroen (PEUP.PA) meanwhile had 1.5 billion euros of goodwill versus a 2.1 billion euros market cap.
Hedge fund short-sellers have hoovered up nearly all available shares in Peugeot in their scramble to bet the French carmaker will be an early victim in an industry struggling to overcome a collapse in European sales.
Franco-American telecom equipment firm Alcatel-Lucent (ALUA.PA) is stinging from its $13.4 billion merger in 2006, which delivered fewer synergies than expected. Its goodwill stands at 4.3 billion euros for a 3 billion market value.
Many of the worst market cap to book value ratios sit in the banking sector, with 15 percent for Portugal's Banco Comercial Portugues (BCP.LS), 24 percent for Italy's Banco Popolare (BAPO.MI) and 29 percent for Unione di Banche Italiane (UBI.MI).
Miner Rio Tinto (RIO.L) this month sacked chief executive Tom Albanese and revealed a $14 billion writedown almost entirely on the value of his two most significant acquisitions, the Alcan aluminium group and Mozambican coal.
"It is really simple. Big acquisitions, especially big acquisitions at big premiums, are really dangerous. We've known it for years," one of Rio's 15 largest investors told Reuters.
Goodwill and asset impairments do not impact cash flow but can cost top management their jobs, as Rio's Albanese and Anglo American's (AAL.L) outgoing CEO Cynthia Carroll discovered.
Anglo took a $4 billion hit to its Minas Rio project on Tuesday, slashing the value to $5.6 billion from $9.6 billion and clearing the decks for new boss Mark Cutifani to push the delayed Brazilian operation off the ground.
"Companies tend to writedown goodwill late when the market has already anticipated the risk. But it can be taken positively because it shows management has a realistic approach and ... shows they have a strategy going forward," said Hayn.
BHP Billiton BHP.L is another mining firm likely to write down assets as low prices and high costs eat into valuations.
Some investors will have already stripped out the goodwill when evaluating whether to buy or offload stock. But they would rather companies come clean on goodwill impairments that continue to catch out less savvy shareholders.
"It is a rallying cry, investors: please read the evidence...it's up to shareholders to identify ill-discipline and react to it. This is the accounting recognition of what we always knew."
(Additional reporting by Chris Vellacott; editing by Carmel Crimmins and Philippa Fletcher)
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