This is Part Two of a two-part post analyzing goodwill and intangible asset impairments.
In Part One of this post, we looked at overall trends with impairment charges related to goodwill and intangible assets in light of an FASB invitation to comment regarding impairment testing. Audit Analytics found that the magnitude of goodwill and intangible asset impairment charges has increased, while the number of impairments disclosed has decreased. In other words, there are fewer impairments, but those few impairments are costly.
In Part Two, we look at specific industries that are most likely to record an impairment charge related to goodwill and intangible assets and provide examples of company impairments discussed in relation to their peers.
Audit Analytics found that the industries most affected by goodwill and intangible asset impairments were Health Care, Consumer Staples, and Consumer Discretionary.1
It is not surprising that the Health Care industry consistently discloses the most goodwill and intangible asset impairments. Health Care companies experience industry-specific factors affecting goodwill and intangibles, including reductions in reimbursements for generic drugs, challenges with drug patents, delays in clinical studies, and FDA applications for approval that can be denied in late-phase drug testing.
Looking at the average impairment charges for the top three sectors disclosing the most goodwill and intangible asset impairments, the average impairment for Health Care in 2018 nearly tripled 2017’s average impact, despite disclosing five less impairments.
The two consumer categories saw their average impairments skyrocket in 2018 compared to any of the other years analyzed – the average impairment for both Consumer Staples and Consumer Discretionary increased dramatically between 2017 and 2018, despite both industries disclosing fewer impairments.
The drastic changes can be partly attributed to the very costly impairments disclosed by Kraft Heinz [KHC] and Newell Brands [NWL]. The trend of costly impairments in the consumer sector can be expected to continue, as two of the costliest impairments so far in 2019 – disclosed by Procter & Gamble [PG] and Coty [COTY] – are in the Consumer Staples industry.
To dig a little deeper as to why the magnitude of impairment charges has increased, particularly in the consumer industries, we looked at significant impairments for specific companies and compared their goodwill impairments to a subset of their peers.
Kraft Heinz Co. [KHC]
Kraft Heinz, a Consumer Staples company, disclosed a massive impairment charge of $15.9 billion in 2019 to lower the carrying amount of goodwill, primarily in its US refrigerated and Canada retail units and on the Kraft and Oscar Mayer trademarks. The impairments were specific to the Kraft natural cheese and Oscar Mayer cold-cuts business. The Company cited changing consumer tastes, among other reasons.
Kraft Heinz’s disclosure was quite unusual. Generally, large write-offs occur when long-term trends are negative, but the impairment test was triggered by short-term developments in the second part of 2018; Kraft Heinz referred to the triggering events as “a totality of several factors”. Worth noting, the SEC launched a formal probe in October 2018 into the Kraft Heinz’s accounting policies related to agreements with its vendors.
Looking at its peers, ConAgra Brands [CAG], Campbell Soup Co. [CPB] and Mondelez International [MDLZ], all recorded both goodwill and intangible asset impairments over the last four years. These impairment charges are largely cited to be due to category decline for certain items, lower than expected product growth, and increased competition. Due to increased competition and shifting consumer tastes, it’s no surprise that some of these established brands have experienced repeat goodwill and intangible asset impairments.
Procter & Gamble Co. [PG]
Consumer Staples company P&G disclosed on July 30, 2019 a one-time, non-cash, after-tax charge of $8.4 billion to adjust carrying values of goodwill and trade name intangible assets in its Gillette Shave Care business. The charge consisted of a before and after-tax impairment charge of $6.8 billion related to goodwill and after-tax impairment charge of $1.2 billion to reduce the carrying value of Gillette indefinite-lived intangible assets. P&G cited currency devaluations and men shaving less for the write-down.
P&G’s reasons seem to be company- specific as its peers Johnson & Johnson Inc [JNJ], Kimberly Clark Corp. [KMB] and Merck & Co [MRK] did not report significant goodwill or intangible asset impairments. Merck cited an impairment, but it related to drug-development costs.
Newell Brands [NWL]
Newell Brands, a Consumer Discretionary company, disclosed an impairment charge in the amount of $8.3 billion related to goodwill and intangible assets in its annual report for 2018, representing 96% of its market capitalization. Newell Brands had to reduce the carrying values of several reporting units: Food and Appliances, Connected Home and Security, Baby and Home Fragrance.
Newell Brands is a diverse company with a wide portfolio of brands, including Rubbermaid storage, Coleman outdoor products, First Alert alarm systems, Sunbeam kitchen appliances, Graco children’s products, and Yankee Candle home fragrance items, among many other brands. The Company cited several reasons for the different impairments, including bad weather diminishing outdoor product sales, generally lower retail store sales, increased competition and higher shipping costs.
Looking at a few of its peers, Colgate-Palmolive [CL] and 3M [MMM] showed no significant impairments, while Tupperware Brands [TUP] recorded a $62.9 million goodwill impairment in fiscal year 2017, related to its cosmetics business in Mexico.
Coty Inc. [COTY]
Beauty company Coty disclosed a $3.8 billion impairment on goodwill and intangible assets for fiscal year 2019, amounting to 43% of its market cap. The write-down is related to an estimated $15 billion 2015 agreement with P&G to acquire certain beauty lines. In its disclosure Coty said: “Sustained commitment to early financial targets did not allow management to address underlying trends” and additionally disclosed underestimation of negative trends associated with the acquired business.
Coty’s peer Avon Products [AVP] noted no significant goodwill/intangible asset impairments. Two other peers, Estee Lauder Companies [EL] and Revlon [REV] had impairments, with Estee Lauder citing a slowdown in its makeup business and Revlon noting an impairment in its portfolio segment that distributes and sells a line of premium and specialty products to the mass retail channel. This may be an indication that consumer tastes are changing, which could be a difficult trend to overcome for large companies with established brands.
Overall, investors and analysts should pay attention to larger economic consumer trends that may affect companies. With more choices than ever for consumers, it’s imperative for consumer-oriented companies to timely identify shifting tastes and subsequently adapt their business model, as necessary.
Large impairments in goodwill typically occur because of negative changes in long-term trends, such as fluctuating macroeconomic conditions, but large impairments due to short-term reasons, such as a change in the market related to the effects of obsolescence, demand, or competition, are a bigger red flag and suggest that a company is having other difficulties.
This analysis was created using the Impairment database powered by Audit Analytics. Audit Analytics tracks key impairment data points from 2009-present, including reasons and characteristics of the impairment, impact on pretax income, and impairment text. For more information on the Impairment database, or for subscription information, please contact us.
1. Consumer Discretionary includes businesses engaging in consumer retail and services, hotels, restaurants, leisure facilities, media production/services, etc. Consumer Staples includes businesses involved with manufacturing and distributing food products, beverages, tobacco, non-durable household goods, personal products, etc. ↩