M&A recovery puts intangible asset valuations in spotlight

The financial reporting regulator will begin cracking down on reporting practices of companies that hope to expand in the slowly stabilising economy.

The Financial Reporting Review Panel (FRRP) expects an increase in business acquisitions as the recovery gathers pace and is planning a parallel rise in companies wrestling with accounting rules aimed at disclosing non-physical assets.

Ian Wright, director of corporate reporting at the Financial Reporting Council, said the panel would target 20 companies and take a close look at how they documented the acquisition of intangible assets. He would not identify the companies except to say “those that made significant acquisitions in 2008 and 2009.”

At the heart of the issue is accounting rule IFRS 3, which forces companies to recognise intangible assets, such as goodwill, contact lists, licenses and trade marks, when they acquire a business.

Notoriously difficult to value, intangible assets are sometimes written off as goodwill or measured at arbitrary prices. As the economy stabalises and expansion plans come off the back burner, the FRRP fears companies will not disclose their intangibles adequately.

“We are about to come back into a period when there are more business acquisitions and we are saying “be careful with this, it is really important this year’,” he said. “We are asking companies to think carefully about their explanations.”

If the investigation turns up anything “seriously wrong” further steps will be taken, Wright said.

Companies have used IFRS 3 since 2005, however the financial crisis interrupted any real test of the rule. Wright believes companies are now coming to grips with the rule for the first time as they take advantage of improved economic conditions.

“There’s not a lot of experience,” he said. “Although it came in the 2005 year end, many companies did not make acquisitions then due to the crisis.”

The FRRP fired a warning shot at businesses last week. On 1 October, investment management firm Brewin Dolphin Holdings had to knock £2.2m off the value of its assets, after it failed to properly disclose client relationships separately from goodwill.

An FRRP statement said Brewin had not separated customer-related intangible assets when it purchased investment management businesses.

PricewaterhouseCoopers senior technical partner Peter Holgate said some companies struggle to put a fair value on intangibles. “One answer is to say we don’t know how to value it so lets call it goodwill ­ that isn’t really credible, so you need to do an exercise which comes to a fair value,” he said. “You can’t really justify [an intangible asset valuation] in the same way you can with other assets… there is a range of possible, but credible answers.”

IN OUR VIEW

It’s the intangibles that make companies successful, so it’s no surprise they can be the most pricey assets in an acquisition. It may be hard to reach an objective valuation, but that’s no excuse not to try.