Goodwill Explained

Goodwill of companies, listed on the Swiss Stock Exchange, achieved the record high of CHF 158 billion in 2022.

According to IFRS goodwill:

• is an intangible (immaterial), non-current (non-liquid, non-monetary) asset.

• represents future economic benefits, arising from other assets acquired in a business combination, not individually identified and separately recognized.

• holds value of future synergies (e.g. increased revenue from cross-selling and new markets, cost efficiencies, tax savings, better financing conditions).

• does not generate cash flows on its own but depends on other assets (e.g. production facilities, manpower).

• is not amortized. Instead, it is tested on impairment annually (IAS 36 Impairment of Assets).

To demonstrate a real-life example for goodwill, I am referring to the annual report of the LVMH Group.

LVMH, born in a business combination of two traditional houses, Louis Vuitton (leather goods, fashion) and Hennessy (premium cognac) in 1987, is currently owned by the French Arnault family (49% stake; 64% voting rights).

Take any luxury brand you can think of, and rest assured it belongs to LVMH (75 prestigious houses of fashion, jewellery, watches, perfumes, wines & spirits).

In 2022, LVMH acquired a California estate, Joseph Phelps, offering premium red wines.

Of the total purchase price 587 million EUR:

▶ 186 million went to goodwill,

▶ 169 million was allocated to the Joseph Phelps brand (Brand: IAS 38 Intangible Assets) and,

▶ 119 million to producing vineyards (IAS 16 Property, Plant & Equipment).

High value allocated to the goodwill shows the expectations of the Group with regard to future synergies for their “Wine & Spirit” division. In particular, improved distribution efficiency and global expansion of production capacities.

Can goodwill become bad?

Let`s bite into negative goodwill:

Swiss largest bank UBS acquired Credit Suisse in March 2022, in a business combination orchestrated by the Swiss Federal Council.

The transaction prevented an immediate collapse of the system relevant bank, suffering from severe loss of market trust and acute liquidity shortage, with the market value of barely 0.8 CHF/ share.

UBS bought Credit Suisse for a bargain, i.e. the purchase price of an exhausted, scandal plagued giant was below the fair value of assets acquired. This resulted into a negative goodwill (badwille) and a gain on purchase of ca. 28 billion USD.

The bargain sounds good, and the gain seems to be a positive sign. But bear in mind, UBS took over a company on the verge of bankruptcy. Synergies, if any, will well be overweight by substantial costs to cover for losses and restructuring (negative synergies).

Sources: Goodwill-Bilanzierung (hslu.ch) Annual report 2023 of LVMH Annual report 2023 of UBS