Question

In the ABC Learning case study, the reasons attributed to the company’s failure included the valuation of intangible assets and goodwill, based on several business combinations. Explain what the possible implications or problems of including intangible assets in an acquisition analysis might be. Consider the effect of intangible assets on the calculation of goodwill, and the implications for investors and other stakeholders.

Answer 1

In order to proceed with the subject matter, let us first understand the meaning of the term’s intangible assets and goodwill.

a) Intangible assets – As the name given for the assets as intangible means which cannot be seen physically. However, the assets which falls under this category contributes a lot for any business particularly when acquisition or merger takes place. Name a few like any company’s copyrights, patents, licensing agreements etc.

b) Goodwill – Goodwill is like brand name of a company, image with respect to customers dependency/trust worthiness on the company, etc.

c) Goodwill also is an intangible asset however it’s valuation or existence comes into picture when a merger or acquisition takes place between two companies and it finds its place in the balance sheet under non-current assets.

d) Amount paid as a premium while the said transactions as mentioned in para ‘c’ takes place forms a goodwill. It is the value paid over and above the net asset value (assets minus liabilities).

Now since the intangible assets does not have any physical form, its valuation and accounting always bring a situation which may become a good indicator for the financial statement or otherwise in long run. Hence, its valuation has a long-standing impact in the business as well as when goodwill forms. Now with the detailed explanation as given above the following implications or problems of including intangible assets in an acquisition analysis may arise.

a) Normally in order to sell company, many companies made its intangible assets overvalued.      

b) Due to overvaluation the financial statements look very healthy.

c) Due to the above, premium pay-out will be much more than the real situation.

Now when merger/acquisition takes place the effect of intangible assets has an impact on the calculation of goodwill like.

a) Premium pay-out will be more

b) Goodwill also will be inflated

c) Tangible assets may not reflect correct market value resulting in improper valuation.

Due to the above the investors and other stakeholders are always remain far away from the real situation and become more dependent on the company by experiencing receiving good dividends initially, however in the long run due to the hidden transaction they ultimately suffer in the long run by investing more.