Determinants of initial goodwill overstatement in affiliated and non‐affiliated mergers

Abstract

This study examines the determinants of goodwill overstatement at the time of mergers in a Korean setting. In the Korean M&A market, there are two types of mergers: mergers between independent companies (non‐affiliated mergers) and mergers between companies under common control (affiliated mergers). This study extends the literature by examining the factors likely to cause goodwill overstatement in both types of mergers. The results reveal that in affiliated mergers, goodwill at the time of a merger tends to be overstated when controlling owners have higher equity ownership in the target than in the acquirer. By contrast, information uncertainty in the target value causes initial goodwill overstatement in non‐affiliated mergers. We also find that monitoring of independent institutional investors with concentrated holdings against overpaying for the target is more pronounced when controlling owners in affiliated mergers have incentives to overpay for the target. In affiliated mergers, acquirers tend to write off goodwill more frequently when controlling owners have higher equity ownership in the target than in the acquirer. In non‐affiliated mergers, information uncertainty in the target value is significantly associated with subsequent goodwill write‐offs. These results suggest that the type of merger has important consequences for initial goodwill recognition and subsequent impairment.

Managerial discretion to delay the recognition of goodwill impairment: The role of enforcement

“…Whether mergers and acquisitions (M&As) create value for the acquirer is a key concern for shareholders (Gu & Lev, 2011; Harford & Li, 2007; Roll, 1986; Seth et al., 2000). Goodwill impairment conveys a negative signal about the quality of past acquisitions because value‐destroying M&As lead to more frequent and larger future goodwill impairments (Ahn et al., 2020), which are essentially an admission of failure to extract value out of past acquisitions (Caplan et al., 2018; Li et al., 2011). Managers have considerable discretion in recognizing goodwill impairments because impairments are computed as the amount by which the carrying value of goodwill on the balance sheet exceeds its estimated fair value.…”

Labor unions and post‐acquisition integration capability: Evidence from goodwill impairment

“…Using goodwill impairment after acquisition, we document empirical evidence consistent with poor post-acquisition integration of acquirers that face strong labor unions. Second, we extend the literature that examines the determinants of goodwill impairment (Hayn & Hughes, 2006;Bens et al, 2011;Gu & Lev, 2011;Li et al 2011;Ramanna & Watts, 2012;Glaum, Landsman, & Wyrwa, 2018;Gunn, Khurana, & Stein, 2018;Ahn, Cheon, & Kim, 2020). This literature attributes the cause of goodwill impairment to economic factors, such as the acquisition characteristics and post-acquisition performance, and managerial incentives for earnings management.…”

“…Prior accounting literature on goodwill valuation supports this view. Empirical evidence suggests that the announcement of goodwill impairment losses not only confirms suboptimal acquisition decisions in the past (Hayn & Hughes, 2006;Gu & Lev, 2011;Caplan, Dutta, & Liu, 2018;Ahn, Cheon, & Kim 2020) but also provides value-relevant information that the value of acquired assets can no longer be justified. For example, Bens et al (2011) and Li et al (2011) find that investors react negatively to the announcement of goodwill impairment because it is a leading indicator of future firm performance.…”

Determinants of goodwill: Empirical study from emerging economies

“…Goodwill and goodwill impairment have been and still are important issues in accounting research due to the importance of goodwill in the balance sheet and the subjectivity of assessing the fair value of goodwill [28]. "Goodwill consists of intangible items, including contract rights, i.e.…”