I never quite understood how goodwill is calculated. I mean, I can understand how ATVI (Activision) or HAS (Hasbro) can have big "goodwill". But it doesn't make sense for CTL. Do you have any explanation?
Assume that Qwest invests $1B in copper wire, telephone poles and central offices in 1970. The accountants write that off over the next X years because, for accounting and tax purposes its getting old and will need to be replaced. In the year 2000 all that copper and those poles have zero value on the books (called book value) but it's obvious that it still has some value.
Century Link comes along and looks at the value of all the copper in the ground and says that they will pay $1B for it even though on the books it has zero book value. That excess paid becomes good will on Century Link because they paid more for it than book value.
"Goodwill" is simply an accounting term (remove any preconceptions of what "goodwill" actually is).
Goodwill is essentially what happens when you pay over book value for an asset.
It's quite common in telecom, because telecom infrastructure investments are generally depreciated over 10 years, but the capital assets still have some value even after they've been depreciated for tax purposes. If they were still listed as capital assets they could be depreciated, so they have to be booked as an asset somewhere.
I think of goodwill as the premium you pay over the book value of an asset. It sounds like CTL will take on some goodwill in this deal. Likely, CTL views LVLT as having intangibles -- e.g. strategic regulatory relationships, exclusive fiber contracts, employee culture, etc.
It's simply the difference between the money you have paid when acquiring other companies and the value of the business you were acquiring from an accounting point of view (including tangible assets and also intangible assets that can be identified and valued).
I think others have done a good job explaining this, so all I'll add is: accounting is an entirely different exercise than valuation. Which seems strange... But the goal of accounting is tracking assets and accounts more so than understanding value.
It's BS assets that companies use to add phantom value to a balance sheet with things like "brand value" and "intellectual capital". There's no way to assess an actual value, so a lot of companies give outlandish valuations to themselves to make themselves appear more valuable than they are. Some people will disagree with that, but that's the reality.
There are of course a lot of companies that have extremely valuable brands and IP, but those tend to trade at pretty fair market valuations and don't have an unusually high percentage of goodwill relative to the rest of their assets.
In the case of CenturyLink, that would be a major red flag to me.
Right, but just because an accounting team says "Well yeah the market values the company at $5B, but we think it's worth $15B because goodwill" does not make it so.
In some cases, there is additional value created by an acquisition that can justify that added value, but in many cases it's just a way to justify an irrational overvaluation on a balance sheet.
For example, the last time I looked CTL had lost about $2 billion in market cap after this deal was announced. That's the market saying "you overpaid for this company" or, as I prefer to say "your goodwill valuation is BS."
It doesn't work like that. You're not paying $15bn for some assets worth $5bn because you have decided that the "goodwill" is $10bn. It's the other way around: you have decided to pay $15bn and as a result you write down in your books tangible and intangible assets for $5bn and "goodwill" (the balance) for $10bn. Maybe you think it's better to write off the $10bn as wasted money right away, but that also creates some issues (for example, you would probably wipe off your profits for several years, so you wouldn't have to pay taxes).
Goodwill is the amount you paid beyond the tangible assets (cash, property, equipment, accounts paid, etc.) on the balance sheet. You can call it what you like, but basically it's something you spent cash on that you have to show on a balance sheet but has no tangible value. This is usually attributed as "synergies", "IP", "brand recognition" and other BS.
> Goodwill is the amount you paid beyond the tangible assets
Wrong. For example "Hewlett-Packard purchased Autonomy for $11 billion in 2011. The purchase price represented a greater than 65 percent premium over the price at which Autonomy was trading at the time of the announcement. Hewlett-Packard recorded $6.9 billion of goodwill and $4.3 billion of other intangible assets in connection with the acquisition."
You're welcome. Just to be clear, I agree that paying too much when making acquisitions is not a good business model. But goodwill is not the reason for overpaying, or an excuse for overpaying. Goodwill is the consequence of overpaying.
