Finance - How much goodwill?

Goodwill is the difference between the price paid and the market value of the net assets of an acquired business. Dramatic consolidation in the broker market over recent years has meant that there is a significant amount of it in the balance sheets of many companies in the sector.

Since 14 January, the Financial Services Authority has considered that goodwill is not an eligible asset for capital adequacy purposes. The body was looking to apply this rule originally upon the introduction of its role as a regulator in January 2005, however, implementation was delayed to give brokers time to reorganise or raise additional capital. The FSA's view is based on the premise that a regulated firm should count only assets on which customers and creditors can rely.

If a broking company currently includes goodwill in its balance sheet then it needs to ensure, in excluding that asset, that it has sufficient capital to meet the FSA's capital adequacy requirements. If a broker then has a deficiency of capital then more capital needs to be introduced either as share capital or as a subordinated loan.

There are a number of different ways an acquisition can be made that can lead to differing accounting results and goodwill intangibles. For example, where a holding company is used to make an acquisition then the goodwill will arise in the holding company, which will not be the regulated company.

Under UK GAAP accounting, goodwill is capitalised as a single amount and is amortised over its estimated economic life. Under International Financial Reporting Standards, introduced to all listed EU companies in 2005, goodwill is subject to an annual 'impairment' review rather than amortisation. There is no requirement to restate acquisitions prior to transition. However, under IFRS3, when looking at the assets taken on via an acquisition, the acquirer would need to identify separately the intangibles from goodwill. Intangibles include items such as brands, trademarks, customer lists, customer relationships, software, contracts and databases. The result will be that, under IFRS, goodwill will be a smaller number but in total the intangible asset value should remain the same.

When considering an acquisition, thought should be given to the following:

- Which is the appropriate purchasing vehicle, the holding company or the trading company?

- What is the appropriate accounting policy to be adopted in relation to the transaction?

- Which company within the group should hold and trade the assets acquired?

Planning is the key to getting the best position in terms of the FSA's capital adequacy calculations.

- Mark Grice, partner, Mazars

WHAT IT MEANS

According to the Oxford Dictionary of Finance and Banking, goodwill is the difference between the value of the separable net assets of a business and the total value of the business. Purchased goodwill is the difference between the fair value of the price paid for a business and the aggregate of the fair values of its separable net assets.