Goodwill Valuation Models

We have a recently acquired operating unit that carries a balance for goodwill from the acquisition. The unit has been negatively affected by the erosion in the housing market, but the underlying business and market share remains intact. However, it will certainly deliver lower revenues and profits during this cyclical downturn.

We are preparing for our auditors, who may question the carrying value of the goodwill. Therefore, we are looking for goodwill valuation models and concepts that would adequately consider the cyclicality of the housing industry and support the carrying value despite the current market conditions. Any guidance would be appreciated.

Don Munchrath (dmunchra@csystems.com )

Response:

My recommendation would be to hire a valuation firm or even a certified valuation analyst to perform a valuation that is supportable. The reality is that any company having even a modest connection with the housing industry has realized at least some loss in its overall value, which must be recognized as an impairment to goodwill. Without the support of a traditional valuation approach that involves triangulating on a value based on multiple methods, a valuation would be suspect and might be easily undermined.

Taking a common and reliable approach by using the discounted cash-flow method might offer the worst result, as value is materially influenced by near-term earnings expectations and an assumed terminal value. Since neither the near-term earnings projections nor the ultimate exit values could be nearly as lofty as they were in transactions leading up to the credit bubble burst last year, or even those occurring thereafter (on account of the steady deterioration experienced to date), it would be hard to imagine deriving a value that isn’t less than what it was at the time of acquisition.

Troy Dunkel (troydunkel@gmail.com )