By Michael Rapoport
When General Electric Co. bought Alstom SA's power business in
2015, it cost it a little more than $10 billion.
But when GE put the acquisition on its books, something odd
happened: The company recorded $13.5 billion in goodwill.
Goodwill is the excess amount that a buyer spends on a target
above the accounting value of the things it paid for. In effect, it
is the $4 that squares up the balance sheet when a company spends
$10 for something that will only add $6 to its net worth. In
recording goodwill that exceeded the cost of the acquired power
business, GE was essentially telling investors that the Alstom
assets it bought had a net worth less than zero.
GE's unusual move didn't violate accounting rules, but it is one
of a number of puzzling decisions the company made in recent years
regarding goodwill. The conglomerate stunned investors last fall
when it erased $22 billion in goodwill from its books, and the
Securities and Exchange Commission is investigating the
Following the 2015 Alstom purchase, GE boosted the deal's
goodwill further, to $17.3 billion in 2016. GE later held off on
reducing the value of the goodwill as the deal soured and the unit
that houses the assets struggled.
A GE spokeswoman said the company's goodwill accounting has
followed accounting rules and been properly disclosed. "We will
continue to be transparent in our accounting," she said.
The company plans to update its financial outlook Thursday.
Increasing goodwill had the effect of enabling GE to avoid costs
that would have reduced its earnings. Not writing it down delayed
investors' realization of how deep the conglomerate's problems
"There should have been a write-down long before," said Lynn
Turner, a former SEC chief accountant.
Part of the reason for so much goodwill from the Alstom deal, GE
said in a securities filing for 2016, was "estimated GE-specific
synergies," such as additional revenue from GE and Alstom product
lines complementing each other.
J. Edward Ketz, a Penn State University associate professor of
accounting, said that while GE's accounting follows the rules, he
couldn't recall another case in which the goodwill a company
recognized from a deal exceeded its cost. "The justification is on
the aggressive side," he said.
As GE raised goodwill, it effectively reduced the value it
placed on the Alstom hard assets it acquired. Just before the sale,
Alstom placed a net value of about $600 million on the tangible
assets and liabilities it was selling to GE, excluding goodwill and
other intangibles. But when GE added those items to its own balance
sheet, net tangible value was about negative $6.2 billion.
Among the reasons for the changes, GE said, were revisions of
some of its assumptions and valuations, additions of $990 million
to legal reserves and the change from international to U.S.
By increasing goodwill and reducing tangible assets, GE avoided
costs that could have weighed on its earnings each quarter for
Many types of assets gradually lose value as they age, leading
to regular depreciation or amortization costs that count against a
company's earnings. But goodwill suffers no automatic loss of
value, so there aren't any amortization costs. Companies must
examine their goodwill yearly to determine if it has lost value,
but if it hasn't, it can stay on the balance sheet forever.
GE conducted regular goodwill tests as required; companies can't
write down their goodwill until and unless they fail a goodwill
test. It also engaged an independent third-party valuation firm to
review its decisions on Alstom goodwill.
But the company took only relatively modest charges before the
2018 write-down. It did suggest a bigger bath was possible: In July
2018, more than two months before the $22 billion charge, GE said
in its quarterly SEC filing that the two power-business units
holding most of the Alstom goodwill were worth only slightly more
than the value at which GE carried them. That meant write-downs
couldn't be ruled out if the power business eroded any further, GE
Still, there are indications GE's leadership knew much earlier
that the power segment had problems.
In April 2017, GE's industrial businesses posted sharply
negative quarterly cash flow, $1 billion below internal
expectations, raising concerns about its accounting and the health
of the power business. Jeffrey Immelt, then GE's chief executive,
told the company's board in 2017 that management had identified
risks in the power division, but he played them down, The Wall
Street Journal has reported.
The board learned of the depth of the problems in September
2017, according to the Journal, and GE acknowledged them publicly
shortly after. In December, the company said it would cut nearly
18% of the power division's workforce. Still, GE didn't take the
$22 billion charge for nearly another year.
"While the numbers always have some level of professional
judgment, the SEC thinks they should be in good faith," Mr. Ketz
said. "If the SEC looks at that and thinks they're not making a
good-faith estimate, there could be problems."
Write to Michael Rapoport at Michael.Rapoport@wsj.com
(END) Dow Jones Newswires
March 13, 2019 05:44 ET (09:44 GMT)
Copyright (c) 2019 Dow Jones & Company, Inc.