New rules lead to merger rush
Companies are in a hurry to finish up deals ahead of coming regulations on partnerships.
NEW YORK - Although corporate acquisition activity has picked up in recent months, it's not surefire evidence that companies are getting back to business despite the current financial and economic woes.
Instead, upcoming changes in accounting rules may be the catalyst because they will make business combinations more expensive to the acquirer's earnings. Some companies may be rushing to get deals done by the end of the year - before the new bookkeeping requirements potentially put a bigger dent in their bottom line.
There has been a noticeable rise in announced U.S. deals this year. While still not anywhere near the record-setting pace seen in the first half of last year, volume in July jumped to nearly $187 billion, the fifth straight month of growth and the highest total since a year ago, according to Dealogic, which tracks mergers and acquisitions.
The reason for that gain can be partially attributed to foreign companies taking advantage of the weak dollar in the first half of 2008. That gave them more purchasing power when bidding for U.S. firms - though the dollar has climbed in recent days.
The slump in U.S. stocks over the last year also makes some companies' valuations look cheaper than the recent past.
But that's certainly not all that's behind the rise in corporate acquisitions.
"Time is of the essence" for buyers trying to beat the deadline before changes come in dealmaking accounting, said accounting expert Robert Willens.
Under Statement of Financial Accounting Standards No. 141, which was revised last year, the less restrictive "purchase method" will be replaced by the "acquisition method" for companies with fiscal years beginning on or after Dec. 15.
The switch is particularly troublesome for acquirers buying companies with large research and development components, such as those in the drug and technology sectors. Willens cites Bristol-Myers Squibb Co.'s $60-a-share bid for ImClone Systems Inc. as a deal that would be better off happening sooner rather than later because of the potential hit to earnings for the acquiring company.
Under the current rules, the R&D being acquired - this is known as in-process R&D - is given a value at the time of purchase, which is then deducted from the acquirer's earnings through a one-time charge.
The new rules will require the in-process R&D to be capitalized, which means it is put on the acquirer's balance sheet as an asset. Then when the product is ready for use, the value will then be amortized over its estimated shelf life. If it is abandoned, it will be written off.
For instance, an acquirer buys a company with $100 million of in-process R&D. Under current accounting rules, it takes a one-time charge to earnings. The new rules require that $100 million to hit the balance sheet, and once the product is ready to use, it would be expensed over a certain number of years, let's say $10 million over 10 years.
"The profits will now be hurt by the constant expense," said Zhen Deng, a research analyst at RiskMetrics Group, which provides risk management and corporate governance services.
