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Posts Tagged ‘IAS 36’

IAS 36 Asset Impairment – & Subsequent Recovery? The eBay/Skype Deal…

September 2nd, 2009 Comments off

            After my coordination of an IFRS conversion in 2005, I’ve keenly been watching the move towards a convergence here in the U.S. as policymakers believe IFRS is the next great move for U.S. accounting policy. With the meltdown of the financial markets, many believe that this could be an answer to the avoidance of future issues. As I’ve mentioned in previous posts, IFRS will not be a solution or provide avoidance of future issues, but is only another reporting mechanism. In fact, it will likely create more confusion for the greater investing public as they try and wade through the a company’s financials trying to make an informed decision.  One area I have been planning to profile is IAS 36, which covers the Impairment of Assets, and the procedures that should be followed to ensure that assets are carried at no more than their recoverable amount.

            Basically, IAS 36 calls for a company, at the end of each reporting period, to test and determine whether an asset may be impaired. Without going into all the details, if the company determines that an asset is impaired in its value then the company will recognize that decrease in value as an impairment loss and include it within the profit/loss reporting for the company. However, one of the more significant elements of IAS 36 is the ability to reverse the impairment of that same asset, which is an option not allowed under GAAP accounting. I have been looking at determining an appropriate example of applying this to a realistic situation and was given a perfect opportunity with the eBay / Skype acquisition and subsequent divestiture.

Purchase Analysis of Skype:
  (millions)
Initial cash consideration  $   1,300.00
Initial stock consideration  $   1,300.00
Potential earnouts  $   1,500.00
Total Projected Purchase Price  $   4,100.00
   
Earnout not paid  $     (975.00)
Net Purchase Price  $   3,125.00
Skype cash generation  $       (324.0)
   
Write-down  $       (1,400)
   
Total Carrying Value  $         1,725
   
Sale of 65% of Skype  $         1,900
   
Projected Skype Value  $         2,923
   
Excess over Book Value  $         1,023

             If you start looking at the total considerations and estimated purchase price for Skype, eBay was potentially on the hook for $4.1 billion. However, Skype failed to meet the aggressive goals that were set and missed the payout on the majority of the potential earnout. This reduced the final purchase price to $3.1 billion. Then, in October 2007, the company recorded a $1.4 billion writedown in the value of Skype, which was reflected in the earnings for eBay that year. Fair enough, admitting that you overpaid and now you pay for the sins. This basically gave Skype a carrying value of $1.7 billion.   This is completely separate from the estimated $324 million in cash that was generated by Skype during the 2007-2009 period, under the eBay watch. With the recent divestiture deal that eBay struck, at $1.9 billion, for a 65% share, this puts an effective valuation of $2.9 billion. Almost $1.2 billion higher than what was reflected on the books, and without consideration to the cash generated by Skype, which is also part of the IAS 36 impairment test. This, also in consideration to the fact that eBay still owns 35% of Skype.

            So if I’m interpreting IAS 36 as it reads, eBay has essentially recovered the entire carrying value of Skype, while also retaining a 35% stake in the company, which has an estimated value of just over $1.0 billion. Would this mean, under IFRS, that eBay is obligated to revalue this asset and include in their P&L. With approximately 1.3 billion shares outstanding this would equate to almost $0.79 per share. With a trailing 12-month PE of 18x, we’re not talking about chump change. So with this example in mind, how is Joe Q Public investor supposed to interpret the earnings of a highly recognized company like eBay and feel comfortable in his decision when this would clearly not be normal operating results and risks overpaying for a stock that has such a significant non-recurring element?  This is a very material consideration.  I would enjoy hearing back from my IFRS friends if this is an inappropriate application / judgment of IAS 36. Since we’re talking about a Principles-based application versus Rules-based, it seems a great example to examine.

Thanks for reading . . . .

Jeffrey Ishmael

IFRS – White Knight or Dark Horse?

August 13th, 2009 Comments off

            With our recent travails in the financial markets, there’s a large number of folks who are starting to point their fingers in the direction of IFRS with claims that this new reporting structure could very well be a solution to all that has happened. Really? Let’s be clear in that IFRS is merely another measurement platform and a basis of financial reporting for a group of nations that are within direct proximity to each that never had a common financial reporting platform.  First, let me qualify my background in addressing this topic in a bit more detail and tabling my opinion on the topic. I spent 4-years working with a France-based manufacturing company and coordinated the North American effort for the company’s IFRS implementation in 2005.  I worked closely with our global finance group in Grenoble, attended numerous coordination meetings in Grenoble, worked with Moss-Adams and Mazars in those efforts, and produced all parallel GAAP/IFRS reporting.  We were working under a very definitive timeline for our company, which was operating under the time mandate of the European Union for implementation.

            Let’s throw a little more history in the mix. The evolution of U.S. accounting standards has been a gradual, almost 7-decade process since the first auditing standards were implemented in 1939. Without going into exhaustive detail, U.S. standards evolved over the next 7-decades to bring us to the point we’re at now. Many of the new standards implemented over the last decade have been a reaction to crises that have been encountered in the open markets. These standards have included the massive Sarbanes-Oxley regulation, Revenue Recognition standards, Reg FD on the disclosure of corporate information, and the list goes on. Let’s keep in mind that full European implementation of IFRS only happened in the last handful of years. While the planning window was longer, it has been in effect for less than 5-years. It was a necessary set of reporting standards that was previously absent for a large number of nations, each with their own stock exchange, and no common set of standards for the average investor to refer to.

            Back to an IFRS versus GAAP consideration. The evolution of the U.S. system has been in reaction to continual developments and introductions of new financial tools introduced into the market, an increasing complexity in the types of companies conducting business over the decades, and the increasing need to maintain integrity within the U.S. financial markets, as well as protect private investors. The U.S. is an absolute rule-based system whereas IFRS is more principals based.  IFRS allows a much higher degree of discretion in applying the IFRS standards.  While I haven’t directly addressed why this is not our white knight for solving the financial reporting issues in the U.S., it’s an intro for the next post I will write.

            In my next posting I’m going to address IAS 36 and the latitude that is given to a company for the reversal of a previously recognized impairment of a tangible asset. Think about the potential dilemma this creates for an investor when they’re trying to compare companies, determine the quality of earnings, yet companies have the ability to write down…and then subsequently, increase the value of an asset. We’ll look at an example where a company can alter their income levels through the revaluation of assets.  I’m certainly not implying that our own U.S.-based system is problem free and doesn’t allow for some level of indiscretion in reporting, but it still appears laughable that we’re going to abandon a system that has been developed over a handful of decades in favor of one that is newly introduced for a group of nations where no standards previously existed.

 

Thanks for reading . . . .

 

Jeffrey Ishmael