Goodwill Hunting

For companies mulling write-offs, economic turmoil is a terrible thing to waste.

Opportunity is knocking loudly now, says Kristi Minnick, an assistant professor at Bentley College. Minnick put historical write-offs under a microscope in her 2005 Ph.D. thesis, “Write-offs and Corporate Governance.” When stocks give back a half decade of gains, she says, write-offs go almost unnoticed. “Markets would not be punitive in any way, shape, or form,” Minnick insists. The chance to unload impaired assets without rattling the stock market resembles bulk waste day in the suburbs, when everything unwanted gets carted away, no questions asked.

During the first half of 2008, goodwill write-offs averaged $652 million, according to data gathered by Los Angeles—based investment bank Houlihan Lokey. The median disposal charge was $211 million. A $6.1 billion write-off by Delta Air Lines erased almost half of its goodwill balance, a fairly typical ratio. Average and median goodwill impairments as percentages of goodwill balances, according to Houlihan Lokey, were 48.5 percent and 46.5 percent, respectively.

Limping Away

When companies record goodwill impairment, cash has long since left the building. Charges are noncash by definition, vestiges of transactions past — and not just targets’ excessive price tags. Paying with overpriced shares may lead to most goodwill write-offs, according to a study by Feng Gu of the State University of New York (Buffalo) and Baruch Lev of New York University’s Stern School of Business. They determined that “overpriced shares provide buyers and management of the buyers with strong incentives to acquire businesses, even at excessive prices and doubtful strategic fit, in order to buy themselves out of the overpriced share predicament and postpone the inevitable price correction by portraying continued growth.”

Because goodwill write-offs impose no cash impact, companies can limp away from massive events, as Sprint did last March after bidding goodbye to $30 billion of goodwill, which stemmed largely from its 2005 acquisition of Nextel, or as Time Warner did in 2002 following its disastrous AOL merger. Sprint’s write-off ripped $29 billion from shareholders’ equity.

Companies typically refrain from write-offs for two reasons: stockholders and lenders. In a post-Sarbox world, says one attorney, companies that may once have resisted write-offs for fear that they give off a distinct whiff of failure may have little choice but to move ahead if impairments have become visible. Any legal basis for not disclosing has gone away. Timely disclosure now is part of the job, and an obligation. “Since Sarbox, companies cannot disclose fast enough,” the attorney says. “Nobody wants to go to jail.”

While no CFO wants to go to prison, some may still be tempted to manage market reaction, and on some level you can’t blame them. After a $24 million goodwill write-off early in 2008 (a third of its goodwill balance), Courier Corp. suffered a 21 percent slump in its stock price. But these days that kind of market reaction may be the exception, because investors, says Bentley’s Minnick, can differentiate between write-offs that will improve performance and write-offs that won’t.

In the Houlihan Lokey study, average goodwill write-offs in the first half of 2008 reduced stock price by 4 percent on the first full trading day. One-third of the sample saw a relative stock-price change of less than 2.5 percent. Meanwhile, 10 companies enjoyed an average 4.5 percent bump in their stock prices, with Harris Interactive realizing a 10.5 percent increase.


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