Of Special Interest


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22nd November 2011

European banks pressured to write down goodwill

The depressed European banking market with few optimistic for a fast turnaround is bringing to the forefront another problem for European banks - that of large amounts of goodwill carried on their books arising from past acquisitions. Market estimates suggest European banks may be carrying around €200m (£172m $272m ¥20.8bn Y1,725m) of such goodwill. The justification for carrying such a large amount is to say the least controversial, and becoming more so.

UniCredit wrote down €8.67bn (£7.44bn $11.8bn¥902bn Y74.8bn) goodwill in the most recent quarter. Of this total €705m related to subsidiary, Bank Austria and its acquisitions in the CEE region. Erste, another acquirer of CEE region banks also wrote down €700m. Many other banks have written down sums of up to €250m this year.

Europe and many other countries use International Financial Reporting Standards (IFRS) which refer to the need to writedown goodwill where the asset has 'permanently lower value'. There are indications that since these rules were first introduced a wider and looser definition of this ruling has been taken. In the early period most organisations wrote goodwill down rapidly. More recently banks especially, stretched by other financial requirements have not been so strict. One get out possible in better times for banks was that that the value of the asset was better defined as a multiple of earnings rather than its market value as defined by its share price. The banks put forward optimistic business plans with high earnings to justify the asset price.

In July of this year the UK Financial Reporting Council, which monitors accountancy firms was very critical of the way bank audits were carried out and specifically referred to the failure by the accounting firms to challenge clients valuations of goodwill.

Although carrying unrealistic levels of goodwill may mislead a sector of shareholders and media it does not get past the professional analyst. One reason for the recent spate of goodwill writedowns, all be it the tip of the iceberg, is the need for banks to raise additional capital. With any major equity or bond issue from banks scrutinised very carefully the carrying of unrealistic goodwill would seriously jeopardise the offer. UniCredit is expected to go to the market shortly seeking a major capital injection.

Santander, Intesa Sanpaolo and Crédit Agricole are the European banks with the highest amount of goodwill carried on the balance sheet. As a percentage of the balance sheet total Crédit Agricole top the list at 36%, closely followed by Intesa at 35% whilst Santander is 30% (figures courtesy of Bloomberg). Statutory capital levels under Basel II and Basel III do not include goodwill.